ONTARIO

LEGISLATIVE ASSEMBLY

1967

INTERIM REPORT OF THE

SELECT COMMITTEE

ON
COMPANY LAW

TABLED IN THE LEGISLATIVE ASSEMBLY BY
THE CHAIRMAN OF THE COMMITTEE,

ALLAN F. LAWRENCE, Q.C, M.P.P.

5th SESSION, 27th LEGISLATURE, 15 16 ELIZABETH II

loom A./t'm en/4 «*r

ALLAN F. LAWRENCE. Q.C.. CHAIRMAN

ONTARIO

LEGISLATIVE ASSEMBLY

^ -Cft LIBRARY 0>

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1967 VgEcEive^

INTERIM REPORT OF THE

SELECT COMMITTEE

ON
COMPANY LAW

TABLED IN THE LEGISLATIVE ASSEMBLY BY
THE CHAIRMAN OF THE COMMITTEE,

ALLAN F. LAWRENCE, Q.C, M.P.P.

53^1 GJ

5th SESSION, 27th LEGISLATURE, 15-16 ELIZABETH II

Digitized by the Internet Archive

in 2012 with funding from

University of Guelph, University of Windsor, York University and University of Toronto Libraries

http://archive.org/details/1967interimcomplaw00onta

PROVINCE OF ONTARIO

LEGISLATIVE ASSEMBLY

SELECT COMMITTEE ON COMPANY LAW

INTERIM REPORT

TABLE OF CONTENTS

PAGE

TERMS OF REFERENCE i

PREFACE iii

INTRODUCTION ix
CHAPTER I — FORMATION OF COMPANIES

Section 1 Incorporation — The right to incorporate 1

Section 2 Incorporation — The "One-Man" company 5

Section 3 Minimum number of directors 8

Section 4 Minimum paid-up capital 9

Section 5 Pre-incorporation contracts 10

CHAPTER II — CLASSIFICATION OF COMPANIES

Section 1 Distinction between public and private companies 14
Section 2 The professional service corporation 18

CHAPTER III — CENTRAL REGISTRY FOR CORPORATE

AND BUSINESS NAMES 22

CHAPTER IV — CAPACITY AND POWERS OF
COMPANIES

Section 1 The doctrine of ultra vires 25

Section 2 The doctrine of constructive notice 29

CHAPTER V — SHARE CAPITAL

Section 1 Non-voting common shares 31

Section 2 Purchase by a company of its own shares 34

Section 3 Mutual fund shares 39

CHAPTER VI — TRANSFER OF SHARES

Section 1 Provisions as to share transfer in the Ontario Act 40

Section 2 The Uniform Commercial Code — Article 8 44

Section 3 Supplementary recommendations 46

CHAPTER VII — DUTIES AND RESPONSIBILITIES
OF DIRECTORS

Section 1 The role of the director 49

Section 2 Standard of conduct and care required of directors 53
Section 3 Enforcement of duties and responsibilities

of directors 55

PAGE

Section 4 The derivative action 62

Section 5 Transactions involving directors 65

Section 6 Indemnification of directors 68

CHAPTER VIII — RIGHTS OF SHAREHOLDERS

Section 1 Enforcement of individual shareholder's rights 69

Section 2 The right to cumulative voting 71

Section 3 The right to remove directors 74

Section 4 The right to requisition meetings of shareholders 77

Section 5 The right to investigate the affairs of the company 79

CHAPTER IX — THE NECESSITY OF MEETINGS

Section 1 Meetings of directors 83

Section 2 Meetings of shareholders 85

CHAPTER X — THE ROLE OF THE AUDITOR

Section 1 The duties of the auditor 87

Section 2 The independence of the auditor 90

Section 3 Appointment and removal of the auditor 93

Section 4 The right of shareholders to require the attendance

of the auditor at shareholders' meetings 96

Section 5 The role of the auditor of a holding company 97

CHAPTER XI — THE ROLE OF THE TRUSTEE UNDER

TRUST INDENTURES 99

CHAPTER XII — MORTMAIN AND CHARITABLE USES

Section 1 The law of charitable uses 105

Section 2 The law of mortmain 110

CHAPTER XIII — FILING OF ACCOUNTS IN OFFICE

OF PUBLIC RECORD 112

CHAPTER XIV — THE NEED FOR A "COMPANIES'

COURT" 115

APPENDICES —

A. Extracts from the New York Business Corporation Law

re incorporation and charter amendment 117

B. Extracts from the New York Business Corporation Law

re purchase of a company's own shares 118

C. Uniform Commercial Code — Article 8 incorporating

officially recommended amendments thereto 120

D. Extracts from the United States Trust Indenture Act

of 1939 138

E. Form letter mailed to corporations 147

F. Questionnaire constituting list of research topics 148

G. Partial list of persons and organizations who submitted

written briefs, communications or suggestions 152

TERMS OF REFERENCE

On Tuesday, June 22, 1965 in the Legislative Assembly of Ontario,
the Honourable Mr. John P. Robarts (The Prime Minister) moved, and
the Honourable John Yaremko (The Provincial Secretary) seconded, a
resolution, which read in part as follows:

"That a select committee of this House be appointed to inquire into
and review The Corporations Act of the province of Ontario and
related Acts and regulations, including The Corporations Informa-
tion Act and The Mortmain and Charitable Uses Act, and to con-
sider the principles of the incorporation, operation, management and
dissolution of corporations, including co-operatives, together with
the legislation of other jurisdictions relating to the same matters.

And the said committee to consist of ten members to be composed
as follows:

Mr. Lawrence (St. George), chairman; Messrs. Carton, Eagleson,
Henderson, Reilly, Renwick, Singer, Sopha, Thrasher and Welch."

The motion was carried.

In the Legislature on Friday, July 8, 1966, on a motion by Mr.
Robarts (The Prime Minister), and seconded by Mr. Leslie Rowntree
(The Minister of Labour), the Select Committee on Company Law was
re-appointed with the same powers and duties as heretofore and Mr.
Price (St. David) was added to the committee.

This motion was also carried.

TO: The Honourable Donald H. Morrow, Speaker of the Legislative
Assembly of the Province of Ontario:

Sir:

We, the undersigned members of the Committee appointed by the
Legislative Assembly of the Province of Ontario on June 22, 1965 to
inquire into and review The Corporations Act and related Acts and
regulations and to consider the principles of the incorporation, opera-
tion, management and dissolution of corporations, together with the
legislation of other jurisdictions relating to the same matters, which
Committee was added to and re-appointed on July 8, 1966, have now
the honor to submit the attached Interim Report.

Allan F. Lawrence, Q.C. (St. George), Chairman

-</w2^ ^^^^^ \J\yn£^<^

Gordon R. Carton, Q.C.

Lome C Henderson

R. Alan Eagleson
Leonard M. Reilly

<;-X^r?^t^>J

James Renwick, Q.C.

Vernon M. Singer, Q.C. Elmer W. Sopha, Q.C.

Ivan W. Thrasher The Hon. Robert S. Welch, Q.C.

11

PREFACE

The Committee was appointed during the last days of the 1965 Session
of the Ontario Legislature. During the months of August and Sep-
tember of that year advertisements were inserted in all Ontario daily
newspapers and many of the specialized journals and periodicals of the
province to advise the public of the existence and purpose of the Com-
mittee. These notices requested the submission of oral or written briefs
bearing on the matters within the terms of reference of the Committee.

Approximately 90,000 form letters were mailed to all corporations
incorporated or carrying on business in Ontario, a copy of which forms
Appendix E to this Report.

The Committee mailed a questionnaire to all interested segments of
the public. After several amendments, this questionnaire formed the
basis of the research studies of the Committee. The final amended form
of the questionnaire appears as Appendix F to this Report.

As a result of the advertising and mailing and, in some cases as a
result of direct enquiries and requests from the Committee, we received
written briefs, communications or suggestions from many persons and
organizations, some of which are referred to in Appendix G to this
Report.

In the two-year period since the Committee was appointed, we have
held 28 public meetings in Toronto, during which time we heard oral
evidence and received written briefs.

During June and July of 1966, a working sub-committee of the Com-
mittee, composed of the Chairman, the then Director of Research and
the then Secretary of the Committee, gained much useful information
in London, England. We are most indebted to the Justices of the Com-
panies Court and to the officers and staff of the Board of Trade, the
London Stock Exchange and several eminent British solicitors for the
hospitality and time they made available to us. In particular, we would
like to record our indebtedness to:

Lord Justice Diplock and Justices

Buckley, Pennycuick & Plowman Royal Courts of Justice

Mr. L. C. B. Gower Law Reform Commission

iii

Mr. Patrick Jenkin, M.P.
Mr. Registrar Berkeley
Mr. P. E. Thornton

Messrs. J. A. E. Davies, J. B.
Smith, G. F. Morris and B. J.
Buckingham

Mr. W. S. Wareham

Members of the Quotations
Committee

Messrs. G. C. Butt and Parry-
Wingfield

Mr. W. D. Scott

Mr. J. M. Renshall

Mr. R. C. G. Clarke and senior
partners

Mr. W. J. Sandars and senior
partners

Mr. C. P. L. Whishaw and senior
partners

Mr. G. W. R. Morley and senior
partners

On December 7, 1966, the entire Committee along with the Director
of the Companies Branch, Department of the Provincial Secretary and
four of his staff and members of the press, spent an extremely interest-
ing and fruitful day in Albany, New York studying the corporation law
practices and procedures of the Department of State of the State of
New York. We would like to express our gratitude to Mr. J. Ghezzi —
the Deputy Secretary of State and Messrs. Slutsky and Kantrowitz of
the Department of State for their assistance.

On December 14, 1966, the Committee spent an interesting half-day
viewing the electronic data processing equipment of the Ontario De-
partment of Treasury and learned much of value to us.

Tn January 1967, the Committee and its counsel and the Director of
the Companies Branch, Department of the Provincial Secretary, spent
one week in California visiting both Los Angeles and San Francisco.
We were privileged to have the benefit of the knowledge and experience
of Professors Richard W. Jennings and Richard M. Buxbaum of the

Companies Court

Bureau of Economic Affairs
of the Board of Trade

Board of Trade
London Stock Exchange

London Stock Exchange

Confederation of British
Industries

Association of British
Chamber of Commerce

Institute of Chartered Accountants
of England and Wales.

Slaughter & May — Solicitors

Linklaters & Paines — Solicitors

Freshfields — Solicitors

Allen & Overy — Solicitors

IV

University of California, Berkeley, and in addition had long and re-
warding discussions with their distinguished colleagues in government,
in Law Schools and in the practice o{ law in California. In particular
we must indicate our sratitude to:

Mr. Jerry Schutzbank

Mr. R. E. La Noue

Mr. Marshall L. Small

Mr. Eric Sutcliffe

Mr. Paul L. Davies. Jr.

Mr. Chas. Rickershauser. Jr.

Mr. Graham Sterling

Wyman. Finell & Rothman —
Beverly Hills (previously
California Corporations
Commissioner)

Assistant Commissioner of the
Division of Corporations of the
State of California

Morrison, Foerster, Holloway,
Clinton & Clark — San Francisco

Attorney at Law — San Francisco

Pillsuby, Madison & Sutro —
San Francisco

Munger, Tolles, Hills &
Rickershauser — Los Angeles

O'Melveny & Myers — Los Angeles

Early in the Committee's deliberations we set up a University Ad-
visory Committee composed of representatives of the Law Faculties of
LTniversities in the Province of Ontario, and we are greatly indebted to
its members for preparing major papers commissioned by the Com-
mittee.

Professor S. M. Beck — Faculty
of Law Queen's University

Professor E. E. Palmer — Faculty
of Law University of Western
Ontario

Professor D. J. Sherbaniuk —
University of Toronto Law
School

Professor S. G. MacKinnon —
Faculty of Law University of
Ottawa

An Analysis of Foss v. Harboltle
and Corporate Amalgamations
and Shareholders Rights.

Duties of Directors to
Shareholders and Others.

Should the Doctrine of Ultra Vires
be Abolished bv Leeislation.

A Critical Analysis of the Rights
of Dissenting Shareholders in
United Kingdom. United States
and Canadian Law.

Professor J. E. Smyth — School of A Critical Appraisal of the
Political Economy — University Role of the Auditor,

of Toronto

In addition to field research by the Committee and its staff, and the
above-mentioned public meetings, the Committee has spent almost five
months, both while the Legislature was in Session and otherwise, con-
sidering successive drafts of the Interim Report submitted herewith.

During all the public hearings and meetings of the Committee, ver-
batim transcripts were made and these will be placed in the Legislative
Library to be available to the general public and to any successor
Committee.

The present Corporations Act of this province, which was the product
of a previous Select Committee of this House, came into force on April
30, 1954. The records and Report of our predecessor committee proved
most useful to us. Similarly, we had the benefit of the two Draft Uniform
Companies Acts, prepared by a special committee of the Conference of
Commissioners on Uniformity of Legislation in Canada. The Report
published in March, 1965 by the Attorney General's Committee on
Securities Legislation in Ontario (commonly known as the "Kimber
Report"), to the extent that our areas of consideration over-lapped
and the subsequent enabling legislation (enacted as The Securities Act,
1966 and The Corporations Amendment Act, 1966) were most valu-
able. In addition to these materials, we were fortunate to have available
recent studies and legislation in other jurisdictions, such as the amend-
ments to the Canada Corporations Act, enacted in 1965, and the new
Companies Act of the Province of Manitoba, enacted in 1964. In the
United Kingdom, The Report of the Company Law Committee pre-
sented to the President of the Board of Trade (commonly known as the
"Jenkins Report") was of great benefit to us. A study of the Draft
Uniform Companies Act enacted in the several states of Australia in
1961 received consideration, as did the Report of a Commission of
Enquiry into the Company Law of Ghana and the subsequent Act
enacted in that Republic in 1963.

Of all the materials of the various countries whose law and experi-
ence we reviewed, no materials received a closer examination and con-
sideration than the federal and state laws of the United States. In par-
ticular, the Business Corporation Law of the State of New York and
the Corporations Code of California were the subject of careful study
by the Committee or its staff. The New York law was particularly
prominent in our considerations because of the mammoth study under-
taken by the Joint Legislative Committee to Study the Revision of Cor-
poration Laws of the State of New York between 1958 and 1963, which
culminated in the new Business Corporation Law of New York. Lastly,

vi

in the United States, we found the model statutes such as the Model
Business Corporation Act and the Uniform Commercial Code, prepared
under the auspices of the American Bar Association, to be of practical
value.

The Department of the Provincial Secretary of Ontario, and especially
its Companies Branch, gave full co-operation to the Committee through-
out its deliberations.

Mr. John G. Arthur. F.C.A. of Peat, Marwick, Mitchell & Co. was
retained as a consultant to the Committee for the purpose of reviewing
Chapter X of the Interim Report.

Although this Committee is indebted to a great number of persons
and organizations, only some of whom are noted above, this Report
would not have been possible had it not been for the ability, experience
and determined purpose of our Counsel, Mr. Robert A. Davies, Q.C.
of the Toronto law firm of Davies, Ward & Beck. Mr. Davies and our
Assistant Counsel, Mr. Lionel H. Schipper of the law firm of Goodman
& Goodman, were appointed at the first meeting of the Committee and
have continued in these important offices to date. Both have worked
unceasingly in the preparation of this Interim Report which has largely
been the responsibility of Mr. Davies.

The Committee seconded Mr. Samuel Lavine from his important
position in the Department of the Provincial Secretary to be the Director
of Research to the Committee and we express our gratitude for Mr.
Lavine's assistance. We regretted that for personal reasons Mr. Lavine
had to resign from the Committee's staff.

Mr. Gerald D. Hyman, a Toronto solicitor, was appointed Assistant
to the Director of Research on November 15, 1965, a position he ful-
filled to the satisfaction of the Committee until he resigned on April 30,
1966 to take a position in private industry.

The Committee was served by two Secretaries: Mr. C. D. S. Robert-
son, a solicitor with the Attorney General's Department was part-time
Secretary to the Committee until his resignation on May 15, 1966 to
enter the private practice of law; Mr. F. J. Nugan, a former lecturer at
Osgoode Hall Law School, ably served as Secretary of the Committee
until his resignation on February 28, 1967.

The members of the Committee and the staff wish to express their
appreciation to Mrs. Frances I. Nokes who so ably, over the whole of
the period of the Committee's existence, has performed our innumerable
secretarial duties and the management of the Committee's office.

At different times and in different areas of our research, the Com-
mittee was assisted by many lawyers, professors, chartered accountants,

vii

investment dealers and members of the general public, to all of whom
we express our deep appreciation.

In the Report, The Corporations Act is referred to as the "Ontario
Act" or the "Act"; the 1962 United Kingdom Report of the Committee
on Company Law is referred to as the "Jenkins Report"; and the Select
Committee of the Ontario Legislature on Company Law which reported
in 1952 is referred to as the "1952 Select Committee". The various
references in the Report to "Anglo-Canadian jurisdictions" and similar
phrases are not intended to include the province of Quebec.

vm

INTRODUCTION

This is an Interim Report only, and we respectfully submit that the
Committee should be reconstituted for the purposes referred to below.

Those terms of reference — reproduced in the Preface to this Report —
are far wider in scope than those usually given to Select Committees of
the Legislature.

Due to the length of the sittings of the Legislature and the consequent
reduction of time available for Committee meetings, it was immediately
obvious to the Chairman and members of the Committee that some
limitations on the subject matters to be studied had to be set if even
an Interim Report was to be produced before the eventual prorogation
of this Legislature.

Very early in our discussions it was decided that, due to the Report
of the Kimber Committee and the resulting enabling legislation arising
therefrom (namely, The Securities Act, 1966 and The Corporations
Amendment Act, 1966), the Committee would attempt to avoid a review
of the aspects of corporation law dealt with in such Report and legis-
lation.

The task undertaken by this Committee was to examine fully and
consider the fundamental principles of corporation law in its general
aspects. To our knowledge, never before in Canada has any legislative
committee attempted a research and study of that nature.

This Interim Report does not discharge the duties imposed upon the
Committee by the terms of reference. However, the Committee has
reached conclusions on an important range of subjects within its terms
of reference and we are of the opinion that these conclusions should be
reported to the Legislature at this time. This Report is an Interim
Report, not in the sense that its recommendations are tentative but in
the sense that the Report does not embrace the entire range of topics
within the Committee's terms of reference. Time available to the Com-
mittee necessitated that our study be confined to the problem areas
associated with the ordinary commercial corporation in Ontario. No
research or Committee consideration was given to the specialized types
of corporations such as co-operatives, insurance companies, loan and
trust companies, corporations without share capital, credit unions,
finance and acceptance companies or extra-provincial companies.

ix

Even within the self-imposed restrictions as to scope, the Committee
has not been able to include in its Interim Report recommendations as
to mergers or amalgamations, the rights of dissenting shareholders in
the event of various fundamental corporate changes, the purpose, func-
tion and scope of the annual return, the field of corporation finance and
the possible strengthening of the protection of the creditor.

These latter important subjects and the entire area of the specialized
corporation require research and study and for that reason we recom-
mend that this Select Committee be re-constituted. The re-constitution
of the Committee, however, need not necessitate postponement of the
implementation of the recommendations of this Interim Report. Within
the limitations noted above, this Committee, as required by the resolu-
tion of the Legislature appointing it, addressed itself to many of the
fundamental principles of corporation law. The recommendations made
in our Report can be enacted into legislation without waiting upon fur-
ther recommendations of a re-constituted committee. The Committee
believes the recommendations in this Interim Report are of fundamental
importance and that, in the public interest, their implementation should
not be delayed pending study of the problems of the specialized types
of corporations, as referred to above.

In the Committee's opinion, the Canadian economy, including the
economy of Ontario, is well served by corporations and it should be or
remain the public policy of this province to encourage the formation and
use of companies. To that end, one of the keynotes which emerges from
our Interim Report is the reduction and, if possible, the elimination of
artificialities in corporation law.

This Interim Report is tabled in the hope that its contents will stimu-
late fresh thinking in the field of corporation law and commercial law
generally and in the hope that a closer liaison will thereby result between
government, practising lawyers, law school staffs and members of the
financial community generally — a liaison which has been inadequate in
the past.

The Committee made no detailed examination of the jurisdiction,
authority and administration of the Companies Branch of the Depart-
ment of the Provincial Secretary, and how these may be affected, if at
all, by the new Department of Commercial and Financial Affairs.

In this spirit and with this type of wide-ranging Report, it is obvious
that the opinions and recommendations which follow are not and cannot
be the views of any one of us. There are opinions and recommendations
contained in the Report with which the Chairman disagrees, and with
which individual members of the Committee disagree. In short, we have
compromised our disagreements in order to arrive at workable recom-

mendations of substance. However, the recommendations are, in every
case, the majority opinion of the Committee in respect of each subject
matter. No single member of the Committee should be held responsible
for any one of the views contained in the Report.

We now submit our Interim Report and respectfully ask that the
Committee be re-constituted for the purposes outlined above.

XI

CHAPTER I

Formation of Companies
Section 1.
Incorporation — The Right to Incorporate.

1.1.1. For reasons that can now only be a matter of conjecture, one
of the earliest general corporation statutes enacted in the Province of
Canada in 1864 provided for incorporation by means of letters patent
issued at the discretion of the Governor-in-Council. The United King-
dom had, two years earlier, enacted the Companies Act of 1862 pro-
viding for incorporation as a matter of right by means of a "registration"
system. After Confederation, the Province of Ontario in 1 874 re-enacted
the 1 864 statute providing for incorporation by means of letters patent
to be issued at the discretion of the Lieutenant-Governor-in-Council.
The incorporation of companies by virtue of the exercise of executive
or ministerial powers of a discretionary nature having been thus estab-
lished, the method has continued in this Province to the present time.

1.1.2. In the United Kingdom, grants of Royal charters constituting
groups of merchant adventurers companies for the purpose of joint
commercial enterprises can be found as early as the 15th century. Com-
panies for the large part operated with these Royal charters, either ob-
tained from the crown or purchased from languishing enterprises,
until the burst of the South Sea Bubble in 1720. There were, of course,
many unincorporated joint stock companies also operating in this
period. Some of these Royal charter companies continued to exist after
1720 and a small number were incorporated after such date, but the
real growth of companies, especially domestic commercial enterprises,
came about through the growth of the unincorporated joint stock com-
pany, an entity contrived through a combination of partnership and
trust law. This was the "deed of settlement" company devised by
lawyers of the day so as to achieve the benefit of most of the charac-
teristics of its chartered counterpart. There were earlier corporation
statutes, but the most notable early Act was the Joint Stock Com-
panies Act of 1844 initiated by Gladstone while he held the office of
President of the Board of Trade. The 1844 Act provided for incor-
poration by registration, required registration of all new companies
with more than 25 members or with shares transferable without the
consent of all shareholders and provided for publicity of the com-
panies' affairs. In 1855 limited liability was accorded incorporated com-
panies which complied with certain prerequisites and ultimately the
Act of 1862 eclipsed earlier legislation, providing, as did its pre-
decessors, for incorporation by registration as a matter of right. At the
present time in Canada there are five provinces whose corporation

1

statutes are direct descendants of the English Act of 1862 and which
provide for incorporation as a matter of right by registration of a
memorandum of association or some similar instrument. These jurisdic-
tions are British Columbia, Alberta, Saskatchewan, Nova Scotia and
Newfoundland. In the United States, in all jurisdictions except Georgia,
incorporation is effected as a matter of right by filing with an adminis-
trative agency a document called articles of incorporation or a cer-
tificate of incorporation or upon the issuance of the certificate of
incorporation. The Canada Corporations Act and the statutes in Mani-
toba, Ontario, Quebec, New Brunswick and Prince Edward Island are
all descendants, directly or indirectly, of the 1864 Act of the Province
of Canada. They are unique in that they alone of all the jurisdictions
in the common law world provide in their general corporation statutes
for incorporation by the exercise of ministerial or executive discretion.

1.1.3. The Ontario Act provides as follows:

"3(1) The Lieutenant Governor may in his discretion, by letters
patent, issue a charter to any number of persons, not fewer than
three, of twenty-one or more years of age, who apply therefor, con-
stituting them and any others who become shareholders or members
of the corporation thereby created a corporation for any of the ob-
jects to which the authority of the Legislature extends, except those
of railway and incline railway and street railway corporations and
corporations within the meaning of The Loan and Trust Corpora-
tions Act.

4. The Lieutenant Governor may in his discretion issue supple-
mentary letters patent to any corporation that applies therefor
amending or otherwise altering or modifying its letters patent or
prior supplementary letters patent.

5. The Provincial Secretary may in his discretion and under the
seal of his office have, use, exercise and enjoy any power, right or
authority conferred by this Act on the Lieutenant Governor, but
not those conferred on the Lieutenant Governor in Council."

1.1.4. The Ontario Act thus imposes upon the Provincial Secretary
the obligation to exercise a discretion with respect to each application
for incorporation or for the issuance of supplementary letters patent,
but prescribes no guidelines for the exercise of such discretion.1

1.1.5. Row, in fact, is this executive or ministerial discretion exer-
cised? The Department of the Provincial Secretary in its Brief to the
1963 Royal Commission on Crime stated:

"Before exercising his discretion whether or not to issue letters patent,
the Provincial Secretary seeks to satisfy himself that no public or

private interest would be prejudicially affected by the incorporation,
and more particularly whether incorporation under the specific cir-
cumstances would be in contravention of a statute or would other-
wise be for an unlawful purpose."

1.1.6. Over 7,000 applications for incorporation and over 1,300
applications for supplementary letters patent are filed with the Provin-
cial Secretary's Department each year and these numbers will likely
increase. The Committee has concluded that the duty and responsibility
imposed upon the Minister by the Ontario Act in the exercise of his
discretionary power to grant or amend charters of companies cannot be
discharged in a meaningful way; that the Ontario system of incorpora-
tion by ministerial act is an historical anachronism which ought not to
be preserved; and that modern public policy no longer requires that a
corporation can come into being only by ministerial Act.

1.1.7. The present Ontario method of incorporation and charter
amendment results in administrative procedures which are unnecessarily
cumbersome and invite unwanted administrative interference. The exist-
ing practice of engrossing letters patent and supplementary letters patent
for ministerial signature results in further delay. As a practical illustra-
tion, the Committee is advised that to incorporate a company in Ontario
under the letters patent system requires at least three weeks and that to
incorporate a company by way of certificate of incorporation in New
York State requires not more than 48 hours, in each case assuming no
undue difficulty as to the proposed corporate name.

1.1.8. In seeking an alternative to the method of incorporation
provided in the Ontario Act, the Committee examined the relevant
provisions of the Companies Acts of British Columbia, Alberta,
Saskatchewan, Nova Scotia and Newfoundland which provide a
"registration'' method of incorporation directly derived from the United
Kingdom Companies Act of 1862 and its successors. The Committee,
however, is reluctant to recommend legislative changes in Ontario com-
pany law which are modelled after the law pertaining to the English
business corporation which evolved, as noted above, from the incor-
porated partnership and joint stock company embryo. The alternative
to incorporation and charter amendment by the exercise of ministerial
discretion does not appear to lie with the adoption of the century-old
English method which itself is showing signs of age.

1.1.9. Accordingly, the Committee recommends that the Ontario
Act be amended to adopt a method of incorporation and charter
alteration similar to that contained in the New York Business Corpora-
tion Law which appears to be one of the most desirable of the
United States laws dealing with this subject. Under such Law2 corporate
existence commences upon the effective filing of a certificate of incor-

poration with the appropriate governmental agency provided only that
the certificate so filed meets the requirements substantive and formal, of
the Business Corporation Law. Under comparable legislation enacted in
Ontario, an administrative review of the certificate of incorporation
should ensure that the requirements of the Ontario Act are complied
with before the certificate of incorporation is accepted for filing. The
administrative function should ensure that the certificate does not con-
tain anything contrary to the Act or to any other provision of the law.
Incorporation will thus become a matter of right subject to compliance
with the relevant provisions of the Act and subject to the availability
and suitability of the proposed corporate name.

1. For some judicial guidelines see Sharp v. Wakefield et al [1891] A.C. 173
(H.L.) and Re Cole's Sporting Goods Ltd. and C. Cole & Co. Ltd. and Cole's
Book Stores Ltd. [1965] 2 O.R. 243 at 250 (C.A.).

2. See Appendix A for some of the relevant provisions of the New York Business
Corporation Law.

4

CHAPTER I
Formation of Companies

Si I ! ION 2.

Incorporation — The "One-Man" Company.

1.2.1. The original historical concept of the business corporation in
England was that of a relatively large number of individuals associated
together to carry on business in corporate form as a separate and dis-
tinct entity, initially as joint stock companies and later as commercial
corporations formed under the United Kingdom Companies Act of 1862
and its successors.3 Early corporation statutes reflected this concept in
that in England, prior to 1908, seven incorporators and members (share-
holders) were required at all times; by the 1908 amendments "private
companies" were permitted to have only two incorporators or members.

1.2.2. The Ontario Act provides,4 in effect, that three natural persons
over the age of 21 years shall be the minimum number of incorporators
permitted to apply for incorporation. The Ontario Act further provides5,
in effect, that in certain circumstances if a company exercises its cor-
porate powers when the number of its shareholders is fewer than three,
every person who was a shareholder during such time, and who is aware
of the fact that the company so exercised its corporate powers, is sever-
ally liable for the debts contracted by the company during the period in
which the company had less than the statutory minimum number of
shareholders.

1.2.3. This Committee, as was the case with the 1952 Select Com-
mittee and with the Jenkins Committee, has considered whether the
law should permit the so-called "one-man" company, that is, a company
having but a single shareholder. For practical purposes, the one-man
company has been recognized in law since Salomon's case.6 Particu-
larly is this true in Ontario and other jurisdictions which provide for
private companies. The private or closely-held company is not infre-
quently beneficially owned by one person or company. The law should
be brought in line with reality by giving statutory sanction to the judicial
recognition of one-man companies. The limited company, being a
separate legal entity distinct from its incorporators and shareholders, it
should not matter, in law, whether a company has one beneficial owner
or many or whether such one owner is a natural person or a company.

1.2.4. The Jenkins Committee arrived at the opposite conclusion.
Commenting on the suggestion that the requisite minimum number of
shareholders of a company should be one for all companies, public or
private, the Jenkins Committee stated7:

"We recognize the force of these arguments [in favour of giving
statutory sanction to the one-man company] but in our view the
practical advantages of making the change are insufficiently great
to justify the consequential alterations of existing law and practice.
Especially is this so in the light of our later recommendation that
every company should have at least two directors and that the first
two subscribers to the memorandum should be deemed to be direc-
tors unless and until the Registrar is notified of others. This recom-
mendation is designed to discourage irresponsible incorporations;
and a change which would enable one man, by merely signing a
piece of paper and complying with certain statutory requirements,
to convert himself into a company and to repeat this performance
as often as he wishes, might be thought to encourage them."

1.2.5. We have not considered this line of reasoning convincing in
the light of modern business conditions. Incorporators of companies
today are rarely, if ever, the promoters. Almost invariably the several
incorporators are mere nominees designated by the solicitor preparing
the incorporation documents. Very frequently the private or closely-
held company has but a single beneficial owner, all other shareholders
being, again, mere nominees of such owner.8 As was said by the Joint
Legislative Committee to Study the Revision of Corporation Laws of
the State of New York:

"The law to engender respect should itself respect realities. This is
especially true, and does not import any sense of weakness, when
no substantive policy of law argues to the contrary, as with incor-
porators."

1.2.6. The majority of corporations in Ontario are no doubt in essence
"one-man" companies. The Committee has concluded that the existing
statutory minimum number of three incorporators (and, inferentially, of
shareholders) is arbitrary and artificial causing unnecessary inconveni-
ence. We do not consider that a reduction in the number of incor-
porators of companies would encourage "irresponsible incorporations"
or facilitate fraud. The concept of "one-man" companies can be given
recognition in the Ontario Act without detrimentally affecting rights of
creditors or other persons dealing with corporations. This recommen-
dation would bring Ontario law into line with the laws of 16 of the
states of the United States including New York, Pennsylvania, Illinois
and Michigan. To avoid technical difficulties in the case of the death of
the shareholder of a one-man company, Section 77 of the Act should be
amended so as to state clearly that the personal representatives of a
deceased shareholder should be deemed to be shareholders of the com-

pany for all purposes with the same voting rights as had the deceased
shareholder.

1.2.7. The Committee recommends that the Ontario Act be amended
to adopt, in principle, the concept embodied in Section 47 of the Model
Business Corporation Act prepared by the Committee on Corporate
Laws of the American Bar Association, which section reads in part as
follows:

"One or more persons, or a domestic or foreign corporation, may
act as incorporator or incorporators of a corporation . . ."

This recommendation reflects the view of the Committee that modern
corporation law should impose minimum restrictions on and afford
maximum convenience and simplicity to incorporation and organization
of companies. As a corollary to this recommendation, the Committee
suggests that the Act be further amended so as not to require the incor-
porator or incorporators to be subscribers for shares.

3. Witness the fact that only new joint stock companies with 25 or more members
or with shares transferable without the express consent of all the members
were required to register under Gladstone's Joint Stock Companies Act, 1844
(7 and 8 Vict. c. 110).

4. Section 3(1).

5. Section 322.

6. Salomon v. Salomon & Co. Limited [1897] A.C. 22. (H.L.).

7. Jenkins Report, para. 21 et seq.

8. This state of affairs is encouraged by the effect of section 299 of the Ontario
Act which does not require directors to own beneficially the shares held for
qualification purposes. In the Committee's opinion, Section 299(1), (2) & (3)
serve no useful purpose and should be repealed.

CHAPTER I

Formation of Companies

Section 3.

Minimum Number of Directors.

1.3.1. In Section 2 of Chapter I the Committee recommended the
statutory recognition of the "one-man" company. Concomitant with that
recommendation, the Committee has concluded that no useful purpose
is served by Section 296(2) of the Ontario Act that requires the fixed
number of directors to be no fewer than three. We feel that the require-
ment that every company have not less than three directors is arbitrary
and artificial. The Committee therefore recommends that the statutory
minimum of directors should, in most cases, be reduced to one. How-
ever, if the issued shares of the company are owned beneficially and of
record by 15 or more shareholders, the Act should provide that the
number of directors of the company shall be not less than three. This
will ensure that publicly-held companies have a minimum of three
directors.

1.3.2. There is no reason to assume that difficulties need arise on the
death of a single director, for even in cases where a company has only
a single shareholder and a single director, the legal personal representa-
tives of the deceased shareholder can readily fill the vacancy in the office
of director pursuant to Section 77 of the Act as proposed to be amended
as recommended in paragraph 1.2.6.

CHAPTER I
Formation of Companies

Section 4.

Minimum Paid-Up Capital.

1.4.1. The Ontario Act contains no requirement that a company
have, at the outset of doing business or at any other time, any minimum
paid-up capital. While it is true that under-capitalization of companies
is one of the major causes of business failures, the Committee has con-
cluded that providing for a statutory minimum capital base would not
lead to any abatement of that serious problem. Even if the complex
variations of business and promotional factual situations would permit
a formula to be devised prescribing statutory criteria of minimum
capital at the outset of the corporate life, how could such formulae be
adjusted to reflect the changing needs of the corporation as its corporate
life goes on? Continuing minimum paid-up capital requirements could
as readily work against as for the interests of creditors and others deal-
ing with the company because management's judgment as to the amount
and use of capital would thereby be impeded arbitrarily without regard
to the particular financial exigencies.

1.4.2. All company law which has evolved from United Kingdom
sources (however greatly changed in the evolution process) vests man-
agement of companies, including financial management, in the boards
of directors. To depart from this principle so far as concerns minimum
paid-up capital requirements would not be warranted because the Com-
mittee considers that clear and workable statutory rules could not
be devised which could adequately cope with the complexities of com-
mercial affairs, nor would such rules be readily enforceable.

1.4.3. The Committee is of the opinion that any legal requirement
as to adequate capitalization of companies should come into being, if
at all, through the development and extension of the duties and responsi-
bilities of directors toward shareholders, creditors and others, a topic
extensively dealt with in other Chapters of this Report.

CHAPTER I

Formation of Companies

Section 5.

Pre-incorporation Contracts.

1.5.1. Very often before a company is formed, the persons or com-
panies (in this Section for convenience referred to as the "promoters")
who, in one capacity or another, are instrumental in causing the com-
pany to be formed, find it necessary or advisable to enter into agree-
ments or commitments for or on behalf of the company to be formed.
All the various categories of these agreements or commitments are
usually described, rather loosely, as "pre-incorporation contracts".
Under present law in Ontario and in the other Anglo-Canadian juris-
dictions the company, when it comes into existence, cannot unilaterally
adopt a pre-incorporation contract but must, if it seeks to benefit from
the contract, enter into new contractual relationships with the parties
concerned. Further, the third party involved in these transactions (in this
Section for convenience referred to as the "contracting party") may not,
in law, be able to enforce the pre-incorporation contract either against
the company after its incorporation or against the promoters. In some
cases, however, because of subtle differences in document wording the
promoters may remain liable to the contracting party whether or not
the company adopts the contract. In cases where the document wording
does not render the promoter liable, the contracting party may have no
defendant to sue.

1.5.2. In England, prior to 1856, no impediment existed to prevent
a company coming into existence burdened with obligations contracted
for it by its promoters — "in esse cum onere". During the period 1856
to 1866 this legal position was abandoned by judicial decisions cul-
minating in the leading case of Kelner v. Baxter? In that decision the
court of Common Pleas concluded by applying a conglomeration of
agency and contract rules of the day that the promoters of a company
were themselves bound by contract by virtue of the fact that at the time of
contracting the promoters had no principal (the company not yet being
incorporated) who at that time became bound by contract or who could
become so bound by subsequent ratification. The rule of law propounded
in Kelner v. Baxter has survived in Anglo-Canadian jurisprudence to the
present time.10

1.5.3. The Committee has concluded that the present state of the
law relating to pre-incorporation contracts generally is unsatisfactory
and replete with serious difficulties for promoters, companies and the
public at large.

10

1.5.4. To deal first with a preliminary matter: Section 286 of the
Ontario Act11 appears on its face to be applicable to contracts made for
its benefit prior to a company coming into existence. The Committee
has concluded, however, that the Section does not, and historically
was not intended to, apply to pre-incorporation contracts as such. The
predecessor of Section 286 is to be found in one of the earliest general
corporation statutes passed in the Province of Ontario.12 There can be
no doubt that the enactment was intended to serve as a basis for a tran-
sition from the joint stock company whose assets were held under a
trust to the new letters patent company contemplated by such statute.115
Presumably, the provision served that purpose for which it was intended.
However, in the opinion of the Committee, Section 286 has long since
ceased to have any effective reason for existence and the Committee
therefore recommends that the Section be repealed.

1.5.5. The law in Ontario and, it would appear, in all the common law
Provinces of Canada, is to the effect that no pre-incorporation contract is
binding upon a company, no matter how or by whom the contract is
made. For the company to be bound by such a contract or, alternatively,
to obtain the benefit of it, a new contract must be made between the
newly-incorporated company and the contracting party. Whether or not
the contracting party has a remedy against the promoter (to whom he
may or may not have intended to look for liability) depends, in the present
state of the law, in large part upon caprice: the manner of execution
of the particular contract. The multifarious judicial decisions seeking to
apply the rule of Kelner v. Baxter have not consistently protected the
separate interests of the parties to the pre-incorporation contract.14

1.5.6. The various States of the United States have, in large part,
rejected the rule of law embodied in Kelner v Baxter by determining,
through judicial decisions, that a corporation may, either expressly or
even by the slightest implication, "adopt" or "ratify" a promoter's con-
tract made on its behalf prior to incorporation.15 The American courts
have also held the promoters liable on pre-incorporation contracts in
certain circumstances, even in cases where the corporation has adopted
or ratified the contract and thus become liable under it. By this arti-
ficiality the plaintiff has acquired two defendants, one of which we can
surmise he never intended to have.

1.5.7. To the Committee it appeared that two basic questions of
policy were involved in this topic: Should companies be bound by pre-
incorporation contracts made on their behalf, perforce, and without
power to reject them? And, secondly, if a company is to be bound by
a contract made before the company comes into existence, what class of
persons should have that authority? Argued from the company's stand-
point, it should not be possible for the traditional management functions
of the directors and officers to be abrogated by permitting promoters to

11

bind companies in contract prior to incorporation. On the other hand, the
contracting party, presumably a member of the public acting in good
faith, should not be left without redress if the company is not bound by
the contract, whether by election or otherwise. Again from the com-
pany's standpoint, the two questions posed above are really one: Is
there any class of persons who should have the authority to bind a com-
pany in contract prior to its incorporation? In the opinion of the Com-
mittee, the answer to this latter question should be in the negative. The
Committee recommends, however, that the so-called rule in Kelner v.
Baxter should be repealed in that the Ontario Act should provide that a
company may by its unilateral act, whether express or implied, be per-
mitted to adopt and therefore take the benefit and assume the liabilities
of a contract made in its name or on its behalf prior to incorporation.
The promoters should cease to be liable under any contract so adopted
by a company. Pursuant to these rules it would follow that promoters
would bear the risk of non-adoption of pre-incorporation contracts — a
risk which is properly inherent in the role of promoter. Companies, on
their part, would be free to assume the benefits of pre-incorporation con-
tracts made on their behalf. The Act should provide that in cases where
the contract is not adopted by the company, the company should be re-
quired to restore to the promoters, in specie or otherwise, any benefit
acquired by the company under the pre-incorporation contract not
adopted after incorporation.

1.5.8. These recommendations, however, do not fully resolve the diffi-
culties arising in pre-incorporation contract situations. Circumstances
could exist, it seemed to the Committee, in which a company should
not be permitted, by non-adoption, to avoid obligations under pre-
incorporation contracts made on its behalf and, conversely, the pro-
moters should not, in some circumstances, be freed from liability be-
cause the company adopts the contract. For example, if the promoters in
fact become the sole or dominant shareholders and directors of the com-
pany on whose behalf a pre-incorporation contract was entered into,
should the contracting party not have the right to enforce contractual
liability against either the company or the promoters as the contracting
party may elect? We therefore recommend that the Act be amended to
include a provision to the effect that a contracting party may make an
application to a judge of the High Court of Ontario designated by the
Chief Justice of the High Court for an order that the promoters and the
company will be jointly and severally liable under a pre-incorporation
contract if, under the circumstances, it is just and equitable in the
interests of the contracting party for such liability to be imposed.

9. (1866) L.R. 2 C.P. 174.

10. The recent case of Newborne v. Sensolid (Great Britain) Ltd. [1954] 1 Q.B.
45; [1953] 1 All E.R. 708 (C.A.) represents the highwater mark in the dim-

culties caused by pre-incorporation contracts in that the court in that case
held that "... as the company was not in existence when the contract was
signed there never was a contract". The adverse implications of this to
suppliers and other persons contracting in good faith with companies not yet
in existence are apparent. See also Rumford v. Hinton (1922) 52 O.L.R. 47,
[1923] 2 D.L.R. 471 (C.A.) and Murray Ellas Ltd. v. Walsam Investments
Ltd. [1964] 2 O.R. 381.

11. Substantially similar provisions appear in the Companies Acts of Quebec,
New Brunswick, Prince Edward Island and in the Canada Corporations Act.

12. The Ontario Joint Stock Companies Letters Patent Act, 1874 (S.O. 37 Vict.,
c. 35, s. 10).

13. See Gower, The Principles of Modern Company Law (2nd Ed. 1957) c. 2.

14. The cases are exhaustively catalogued in the standard texts. See, for example,
Palmer's Company Law (20th Ed. 1959) p. 229 et seq.; Gower, supra p. 265
et seq.; Wegenast, Canadian Companies (1931) p. 261 et seq. and Fraser &
Stewart, Company Law of Canada (5th Ed. 1962) p. 119 et seq.

15. In Indianapolis Blueprint & Manufacturing Co. v. Kennedy et at (1939) 215
Ind. 409, 19 N.E. 2d 554 Shake J. said:

"Manifestly no formal resolution of a board of directors is required
to effect a ratification; yet something more is demanded than a mere
acceptance of benefits which the corporation has no power to reject with-
out uncreating itself. We believe the rule applicable may be more clearly
stated as follows: A corporation may, in the absence of a charter or
statutory provisions to the contrary, make a promoters' contract its own
in the same manner that it might itself enter into a contract of a similar
nature as one of the original contracting parties . . . This pre-supposes
that there may be an implied ratification under some situations . . ."
See also Ballantine, On Corporations (Rev. Ed. 1946) p. 103 et seq.; Lattin,
The Law of Corporations (1959) p. 100 et seq.; and Lattin & Jennings, Cases
And Materials on Corporations (3rd Ed. 1959) p. 236 et seq.; Baker & Carey,
Cases and Materials on Corporations (3rd Ed. 1959) p. 71 et seq.

13

CHAPTER II

Classification of Companies

Section 1.

Distinction between Public and Private Companies

2.1.1. Under the Ontario Act a distinction is made between public
and private companies. A public company is "... a company that is
not a private company"16 and a private company is defined17 as "... a
company as to which by its special Act, letters patent or supplementary
letters patent,

(i) the right to transfer its shares is restricted,

(ii) the number of its shareholders, exclusive of persons who are
in the employment of the company, is limited to fifty, two
or more persons holding one or more shares jointly being
counted as a single shareholder, and

(iii) any invitation to the public to subscribe for its shares or
securities is prohibited;".

2.1.2. The statutory distinction between public and private companies
was introduced into the English Companies Act in 190818 and was
adopted in Ontario in 1912.19 The distinction also appears in the
Canada Corporations Act and the Companies Acts of all Provinces of
Canada except Quebec and Nova Scotia. A similar distinction appears
in the corporation statutes of Australia and its states, Ghana and South
Africa, but is apparently unknown in the United States of America. In
the United States, companies that are privately held are often referred
to as "closely-held" companies.

2.1.3. The Ontario Act now contains a number of provisions which
recognize and emphasize the distinction between the public and the
private company, such as: a private company must have the words
"private company" on its corporate seal and share certificates20; a private
company cannot issue share warrants, that is negotiable instruments in
bearer form whereby its shares may be transferred21; a private company
(but not a public company) may make loans to its shareholders or
directors to enable them to purchase issued shares of the company22;
and a private company, as contrasted to a public company, need not
forward its annual statements to its shareholders, unless demanded.23 If
a private company contravenes the terms of its charter respecting the
restriction on the right to transfer its shares, the limitation on the
number of its shareholders or the prohibition on invitations to the

14

public to subscribe for its shares or securities, the Act states that it ceases
to be entitled to the privileges and exemptions conferred on private
companies under the Act.21 These various statutory provisions which
arise out of the distinction between public and private companies are
not derived from the historical basis for the existence of the distinction
between the public and the private company.

2.1.4. Such historical basis for the distinction is best illustrated by
the following extract from the Jenkins Report-"1:

"56. Until the Companies Act, 1908, no companies were required
to file accounts with the Registrar of Companies. That Act intro-
duced the distinction between public and private companies and re-
quired the former but not the latter to file a statement in the form
of a balance sheet. The Companies Act, 1948 introduced the further
distinction between exempt and non-exempt private companies and
required all companies other than exempt private companies to file
accounts. The exempt private company, defined in section 129(4)
and the notoriously complicated Seventh Schedule of the Act, is not
only exempted from the requirement as to the filing of accounts: it
need not appoint a qualified accountant as auditor and may appoint
as auditor a partner or employee of an officer of the company (pro-
visos to subsections (1) and (2) of section 161); and it is not sub-
ject to the otherwise general prohibition, in section 190, against a
company's making loans to its directors. It enjoys these privileges
in addition to those accorded to non-exempt private companies, to
which further reference is made below.

"57. The Cohen Committee admitted that their proposed definition,
which was broadly that adopted in the Act, of the exempt private
company was complicated and would involve some anomalies, but
they recommended its adoption as the best that could be devised to
save the small family business from disclosing its affairs to the
public. Nevertheless we doubt whether the definition has worked out
as the Committee or Parliament intended."

2.1.5. The Jenkins Committee re-examined the historical nexus be-
tween the concept of the private company and the desirability of distin-
guishing between those companies which should and those companies
which should not make public their accounts. The Jenkins Committee
concluded26 that there should be no distinction in the Companies Act in
the treatment of public and private companies, a decision substantially
based on that Committee's further conclusion that all limited companies
incorporated under the United Kingdom Act should be compelled, with-
out exemption, to file annual accounts with the Registrar of Companies.

15

2.1.6. Ontario companies, whether public or private, have never been
required to file, and make public, annual financial statements with
the Provincial Secretary or with any other governmental agency.
The requirement as to the filing of accounts instituted by the 1908
amendments to the United Kingdom Act were, on the other hand,
adopted by the Provinces of British Columbia, Alberta and Saskatch-
ewan and the predecessors to the Canada Corporations Act, which juris-
dictions compel public companies to file annual balance sheets in
offices of public record. Whether or not the concept of the private com-
pany should be retained in Ontario law is, accordingly, a question which
the Committee determined it could consider apart from the more con-
troversial issue as to whether or not companies should be required to
make public detailed information as to their financial affairs.27

2.1.7. The second, but presumably less important, historical basis
for the evolution of the private company in England and in those few
jurisdictions which followed suit was the prohibition against such private
companies offering their shares and other securities to the public. How-
ever, protection of the Ontario public in respect of the sale and distri-
bution of securities is clearly the province of the securities laws of
Ontario, recently overhauled and up-dated.28 A charter prohibition
against offering securities to the public is not an efficacious method of
regulating against improper distribution of corporate securities.29 The
Committee has therefore concluded that the concept of the private com-
pany need not be retained in Ontario law as any necessary adjunct to
provincial securities laws.

2.1.8. The Committee has concluded that the statutory concept of
the "private" and "public" company has insufficient merit to warrant its
continued existence in Ontario law. Of the original historical bases for
the distinction in company law between the private and public com-
pany, one was never incorporated into the Ontario Act and the other
has become meaningless in the light of modern securities legislation.
None of the provisions in the Ontario Act referred to in paragraph
2.1.3. which specifically deal with private companies have sufficient
intrinsic merit to warrant the continued statutory recognition of
the private company status, and the Act should therefore be amended
and varied appropriately.

2.1.9. This recommendation of the Committee does not extend to the
abolition of the principle of Section 39 of the Act which permits the
charter of any company to restrict the transfer of its shares; no doubt
the charters of many closely-held or family companies will continue to
contain prohibitions against free transferability of shares.

16. Section 1(g).

17. Section 1(f).

16

18. Companies (Consolidation) Act, 1908 (8 Edward VII. c. Gi)).

19. The Ontario Companies Act, 1912 (S.O. 2 Geo. V. c. 31).

20. Section 21 (3) and 45(1) (d) respectively.

21. Section 48.

VI. Section 23(2) (e).

IB. Section 93. As to other provisions dealing- with private companies, see Sec-
tions 3(2), 27(9), 33(1) (1), 33(l)(o), 81(2), 98 and 99.

14. Section 98.

!5. Jenkins Report, para 56.

i(j. Jenkins Report, para 67.

11. See Chapter XIII.

18. The Securities Act, 1966, S.O. 1966 c.142.

>9. See Regina v. Golden Shamrock Mines Ltd. ct id, Kegina v. Langs [1965]
1 O.R. 692 (C.A.).

17

CHAPTER II
Classification of Companies
Section 2.
The Professional Service Corporation.

2.2.1. Historically, professional persons of all common law jurisdic-
tions have been denied the right to incorporate their professional prac-
tices and to obtain thereby the benefits which are available to those who
carry on other businesses in incorporated form. Exceptions or devia-
tions from this prohibition, however, are increasing.

2.2.2. In Ontario, for example, professional engineers, pharmacists,
and dental technicians may utilize the corporate form provided that such
persons comply in so doing with applicable law or regulations imposed
either by statute or by the rules of the associations to which such pro-
fessional persons belong.30 In the United States, statutes have been passed
in almost half the States conferring the right to incorporate either upon
professional persons generally or, in some cases, on specific professionals
such as doctors or lawyers.

2.2.3. The Ontario Act provides that81:

"The Lieutenant Governor may in his discretion, by letters patent,
issue a charter . . . constituting [the applicants for incorporation]
and any others who become shareholders ... of the corporation
thereby created a corporation for any of the objects to which the
authority of the Legislature extends, except those of railway and
incline railway and street railway corporations and corporations
within the meaning of The Loan and Trust Corporations Act".

It is clear, therefore, that there is no prohibition in the Ontario Act
against persons applying for the incorporation of companies to carry on
the practice of law, medicine, accounting, engineering and any other "pro-
fession". In actual fact, however, most of the governing bodies of these
and other professions have, pursuant in some cases to statutorily con-
ferred powers, passed rules or regulations prohibiting persons subject
to their jurisdiction from carrying on business in incorporated form.
The Committee understands, further, that at least some of such asso-
ciations have advised the Provincial Secretary of these prohibitions with
the result that the Provincial Secretary is not prepared, in most cases,
to entertain an application for incorporation of a company with objects
which include carrying on the practice of certain professions.

2.2.4. There are a number of persuasive arguments in favour of per-
mitting incorporated professional practices: carrying on a professional

18

practice in corporate form permits clarification of the legal relationships
between shareholders of the company and third parties; simplifies or
eliminates difficulties arising by virtue of the withdrawal, retirement or
death of members of a professional partnership; expedites transfer
of interests in the practice from one person to another or to incoming
members of the practice; and permits the accumulation of partnership
profits for the purpose of re-investing in fixed assets or for other pur-
poses. In addition, there are, under existing law, very real income tax
advantages which would accrue to the professional person or partnership
on incorporation of the practice. There seems to be no reason why all
these advantages should not be available to those who are active in pro-
fessional life.

2.2.5. Not a few of the objections to permitting an incorporated pro-
fessional practice seemed to relate to specific relatively minor problems
which are said to arise from permitting the incorporated practice, for
example, should the directors and shareholders all be required to be
licenced practitioners of the particular profession? The main objection
of substance to permitting incorporated professional practices seems to
be the apprehension of professional associations and licensing bodies
that once the professional man is cloaked with the corporate form, the
professional relationship between the professional and his patient or
client will be impaired, if not severed, thus resulting in detriment to
the public generally.

2.2.6. On balance, the Committee has concluded that the objections
to incorporating the professional practice are unfounded and the Com-
mittee therefore recommends that the Ontario Act be amended by add-
ing as a new Part a code of rules designed to permit the incorporation
of professional service companies. It seems unrealistic to prohibit medi-
cal, legal, accounting and architectural practices, for example, from being
carried on in incorporated form when at the present time such practices
are in fact carried on, in some cases, in very large partnerships.

2.2.7. The recommended code of rules for professional service com-
panies should contain provisions designed to make allowance for the
concern that the professional relationship might be adversely affected.
For example, the professional person, albeit practising his profession
through the instrumentality of a corporation, should remain personally
liable for his tortious Acts jointly and severally with the company. :>-
Further, the code should provide that the particular professional service
may only be rendered to members of the public through natural persons
who are duly licenced to render such professional service. 88 Whether or
not the persons rendering the professional service must be shareholders
and directors of the corporation or whether they can be employees only

19

is a question the answer to which may vary from one profession to
another. The suggested code will undoubtedly require that the term
"profession" be defined. This can be done either by reference to specific
occupations or, perhaps, defined in general terms.34 Care should be taken
to ensure that the legislation does not impinge upon the existing ethics
and rules as to privileged professional communications. The Committee
suggests that the new Part in the Act should stipulate that the profes-
sional service corporation should be incorporated with objects limited to
carrying on the particular practice and other objects necessarily inci-
dental or ancillary thereto. It is also recommended that the name of the
professional service corporation should include some words or initials
to ensure that the public is aware of the fact that the corporation is, in
effect, an incorporated professional practice of some kind. The Com-
mittee has concluded that there is no reason why the professional service
corporation and its shareholders may not enjoy limited liability for
debts or other obligations except liabilities arising for tortious acts as
mentioned above. Further, the suggested code should make applicable,
by appropriate reference, such other provisions of the Act and any
legislation implementing this Report as are not in conflict with the spe-
cific provisions of the recommended professional business corporation
code. Appropriate amendments will be required to be made to those
provincial statutes which prohibit certain professional persons from in-
corporating their businesses or practices.

2.2.8. The Committee is of the opinion that incorporation of the
professional practice should not detract from the professional nature,
attitudes and ethics of the professions; nor should incorporation mean
that the professional practice would erode the valuable and traditional
relationship presently existing between the professional man and his
clients or patients.35

2.2.9. The above recommendations, however, are not intended to im-
ply that there should be any lessening of authority over professionals
by the various associations or licencing bodies which under provincial
statutory authority presently govern and regulate the professions. If the
right to practice a particular profession requires licencing by a govern-
ing body, such requirement should continue, but those persons who are
duly licenced by the appropriate authority should then be free to carry
on their practice in an incorporated form. The suggested code for the
professional service corporation should state that a governing or licenc-
ing body may not refuse to grant a licence to an applicant otherwise
qualified merely because the professional practice is proposed to be
carried on in an incorporated form. By the recommendations made in
this Section, the Committee is suggesting that it should not be contrary
to public policy in Ontario for professional persons to incorporate their
practices. The Committee, however, with the exception noted above,

20

does not intend these recommendations to derogate from the authority
presently vested in those associations which licence, discipline and
regulate the various professions.

30. The Professional Engineers Act, R.S.O. 1960, c. 309, The Pharmacy Act,
R.S.O. 1960, c. 295, The Dental Technicians Act, R.S.O. 1960, c. 90.

31. Section 3(1).

32. The Kentucky Laws of 1962, c. 236, section 6 provides in part:

"This Act shall not alter any law applicable to, or otherwise affect the
fiducial, confidential, or ethical relationship between a person rendering
professional services and a person receiving such services. The corporation
shall be jointly and severally liable, with the tort feasor, to the full value
of its assets for any negligent or wrongful acts or actionable misconduct
committed by any of its officers, shareholders, agents or employees while
they are engaged on behalf of the corporation in the rendering of profes-
sional service."

33. Minnesota Statutes of 1961, c. 319, section 319.15 reads in part:

"A professional corporation may render professional service only through
natural persons who possess a licence to render professional service of the
type which the professional corporation was organized to render . . ."

34. Laws of Pennsylvania, 1961 Act 416, section 2(2):

" 'Profession' shall include all occupations, legally or traditionally desig-
nated as professions, and which members thereof by law, tradition, or ethics,
are forbidden to incorporate for the purpose of rendering professional
services, including, but not limited to, architects, attorneys at law, certified
public accountants, chiropractors, dentists, ostepaths, physicians and
surgeons."

21

CHAPTER III

Central Registry For Corporate And Business Names

3.1.1. To an increasing degree of frequency, corporations in Ontario
and elsewhere carry on business or one or more divisions of their busi-
ness in names other than the corporate names specified in their charters
of incorporation. In the great majority of cases, this corporate use of
assumed names is bona fide and founded on a proper business purpose.
In a minority of cases, however, the assumed name is used by a cor-
poration (formed with an innocuous name) which has been refused the
assumed name by the Provincial Secretary in the exercise of his discre-
tion under the Ontario Act; the intent of the law to avoid the use by
companies of similar or identical names is thereby frustrated.36

3.1.2. In all cases of use by corporations of assumed names, whether
bona fide or otherwise, the possibility of confusion in the minds of the
public exists. Particularly is this so in that the corporation is not required
to register in any office of public record notice of the fact that the busi-
ness or division of the business is being conducted under a name other
than that by which the enterprise is officially called. There is no doubt
in Ontario law that a company is not prohibited from carrying on
business in a name other than its corporate name; nor is the company
required by law to register its assumed name.37 Thus, the public fre-
quently deals with a business unaware that it is in fact dealing with an
incorporated company having limited liability. Non-registration of as-
sumed names becomes particularly important if a member of the public
wishes to take legal action or process against a business not being
carried under its correct corporate name.

3.1.3. The Committee has concluded that the use by corporations
of assumed names for trading purposes is an established commercial
practice which should be allowed to continue.38 The Committee recom-
mends, however, that the Ontario Act be amended by adding, as a new
Part, provisions to establish a central registry in the Province for the
registration of business names.39 It is suggested that the new Part adopt
the principles of The Business Names Registration Act, 1965 of Mani-
toba in that provision should be made therein for the following:

1. "Business" should be defined to include every trade, occupation,
venture or profession whether or not conducted or carried on with
a view to profit other than a professional practice conducted either
by an individual or a number of individuals in partnership if the
particular profession is regulated by a self-governing body deriving
its authority from a provincial statute.

22

2. A register should be maintained by the Provincial Secretary in
which shall be recorded the names of every business required to be
registered under the Part.

3. Every person, including a corporation, which carries on business
either as a proprietorship or as a partnership or in corporate form
under a name other than the name of such person must register the
assumed name by a declaration filed with the Provincial Secretary
within 30 days after commencing to carry on business. The declara-
tion of registration shall include, in addition to the assumed name,
the actual names and the business addresses of the owner or owners
of the business and a brief description of the business. The applicant
for registration shall be the person or persons or company or com-
panies who propose to use the name. Notice of changes in these
essential facts should be required to be filed with the Provincial
Secretary.

4. Each registration of a business name shall expire after five years
unless renewed from time to time.40 Notice of impending expiration
of registrations shall be forwarded to registrants by the Provincial
Secretary.

5. The Provincial Secretary should be authorized to refuse registra-
tion of a business name if the name is objectionable on grounds
similar to those set out in Section 12 of the Act in respect of com-
pany names. The Provincial Secretary should have power to direct
the change of a name of a business with right of appeal to the court
as is provided in Section 12(2) and (3) of the Act in respect of
company names.

6. The Provincial Secretary should be empowered by application to
the court to compel compliance with the Act.

7. Registration of business names should be required of all busi-
nesses carried on in Ontario whether or not the person or company
carrying on the business is a resident of or incorporated under the
laws of Ontario.

8. Registered business names should be disclosed in annual returns
filed by companies.

3.1.4. The above recommendations stem from the Committee's view
that the public should be protected from confusion of business names,
whether the names are those of incorporated or unincorporated busi-
nesses. The recommendations presuppose that the registration of busi-
ness and company names will be effected by electronic data processing
equipment so that "name searches" by applicants for their proposed use
or by creditors and others can be carried out with substantially greater
dispatch than has been possible in the past. The Committee appreciates
the difficulties which could attend this recommendation to require regis-

23

tration of all business names if an overly narrow or inflexible adminis-
trative attitude was adopted toward the availability of names. As the
number of business and corporate names in use increases, the difficulties
confronting both the commercial public and the Provincial Secretary
and his staff will multiply. The Committee therefore suggests that the
Provincial Secretary should develop departmental guidelines as to the
availability of both business and corporate names, which guidelines
should take into consideration location of business, nature of business
and other essential factors in determining whether or not there are
reasonable grounds for a possible risk of confusion in respect of a
particular name.

36. Section 12. The courts have held that the test of the proper exercise of dis-
cretion under Section 12 is not whether there is any intention to mislead or
deceive but only whether there is a reasonable possibility of confusion: Re
F. P. Cfiapple & Co. Ltd. [1960] O.R. 531; Re C. Cole & Co. Ltd., Coles Books
Stores Ltd. and Cole's Sporting Goods Ltd., [1965] 2 O.R. 243 (C.A.).
Further, in the exercise of discretion under the Section regard must be had
to the same or similar names of other corporations wherever incorporated
and of associations, partnerships, individuals or businesses.

37. Heriteau et al v. W. D. Morris Realty Ltd., trading as Capital Storage Com-
pany, [1943] O.R. 724; Tilden-Rent-A-Car v. Keffer [1964] 2 O.R. 80.
The Partnerships Registration Act which applies to partnerships and indi-
viduals engaged in trading, manufacturing or mining purposes under a name
other than their own or under a plural name apparently does not apply to
corporations. Registration under this Act is with the registrar of deeds
in the land Registry Division in which the business is to be carried on and
the usefulness of such registration to the general public is accordingly
limited. Further, the local registrar has no authority under the Act to
refuse registration on the grounds of similarity of names or for any other
reason.

38. The Legislature of Quebec arrived at the opposite conclusion. The Quebec
Companies Act provides that a company cannot, in the carrying out of its
affairs, use any name other than that given to it by its letters patent. It is
doubtful if the legislation achieves its objective.

39. The United Kingdom has provided for the central registry of business names
since 1916 under the Registration of Business Names Act, 1916: see Jenkins
Report paras. 436 et seq.

40. Hopefully, this will prevent the accumulation of numerous abandoned busi-
ness names: see Jenkins Report, paras. 438-9.

24

CHAPTER IV

Capacity and Powers of Companies

Section 1.

The Doctrine of Ultra Vires.

4.1.1. The common law doctrine of ultra vires originated in the United
Kingdom as a protection for creditors of and investors in limited com-
panies. The doctrine renders void, without the possibility of ratification,
any act which is beyond a company's capacity. In regard to a company
incorporated under the registration system provided for in the United
Kingdom Companies Act, an act considered beyond a company's capacity
is one which is not expressly or impliedly authorized by statute or by the
company's objects clauses as contained in its registered memorandum of
association. As stated by the Cohen Committee which reported to the
President of the Board of Trade in 194541:

"The memorandum of a company defines its objects and a company's
objects are limited to those expressly mentioned and such as are
ancillary to the expressed objects. A contract made by the directors
upon a matter not within the ambit of the company's objects is ultra
vires the company, and, therefore, beyond the powers of the directors.
This principle is intended to protect both those who deal with the
company, and its shareholders."

The Cohen Committee concluded, however, that:

"... the doctrine of ultra vires is an illusory protection for the share-
holders and yet may be a pitfall for third parties dealing with the
company."

and. further, that:

". . . as now applied to companies, the ultra vires doctrine serves no
positive purpose but is, on the other hand, a cause of unnecessary
prolixity and vexation."

4.1.2. The ultra vires doctrine was first fully expressed as a judicial
principle in the leading case Ashbury Railway Carriage & Iron Co. v.
Riche*2 in which it was held that any act by a company not expressly or
impliedly authorized by its memorandum of association was ultra vires
and therefor could not be ratified. The purpose of the doctrine was to
protect creditors by ensuring that the company's funds to which creditors
must look for payment were not dissipated in unauthorized activities and
to protect investors by allowing them to know the objects for which their
money was to be used. There is no doubt that the doctrine did, even at
the outset, have the desired effect so far as creditors and investors were

25

concerned, but it also produced great hardship for persons doing busi-
ness with companies in that such persons could not enforce obligations
incurred by companies in ultra vires transactions. Ultimately, the protec-
tion provided by the ultra vires rule has been made ineffective by includ-
ing in memoranda of association broad and comprehensive objects
clauses. In addition, the United Kingdom Companies Act has, since 1875,
been altered extensively to permit the amendment of the company's
memorandum by changing its objects clauses. Thus, the element of pro-
tection which the doctrine afforded to investors and creditors has been
dissipated while the danger of the ultra vires doctrine to third parties
continues unabated. A detailed analysis of the effect and development of
the ultra vires doctrine in the United Kingdom is probably not necessary
for the purposes of this Report. It is sufficient to state that as a result of
developments in statutory and case law in the United Kingdom since 1875
the whole object of the ultra vires doctrine has been largely frustrated,
so that it has ceased to be an effective protection to anyone and has be-
come merely a trap for the unwary third party and a nuisance to the
company itself.43

4.1.3. The doctrine was incorporated into the laws of various States
of the United States. However, because of the development in the United
States of the doctrine of unjust enrichment, and because the great weight
of American authority does not charge third parties with constructive
notice of the contents of a company's by-laws, the adverse effect of the
doctrine on third parties dealing with companies was greatly mitigated.
In any event, many of the States have, by one means or another, abolish-
ed the doctrine by statutory amendment.

4.1.4. Prior to 1916 it was generally believed that the doctrine of
ultra vires was applicable in Ontario. However, in that year the Privy
Council decided in Bonanza Creek Gold Mining Company Limited v.
The Kingu that the doctrine of ultra vires does not apply to a company
incorporated by charter under the Ontario Act. The Privy Council held
that an Ontario company, which is created by charter, has the capacity
of a natural person to acquire powers and rights:

"Such a company has the capacity of a natural person to acquire
powers and rights. If by the terms of the charter it is prohibited from
doing so, a violation of this prohibition is an act not beyond its
capacity, and is therefore not ultra vires, although such a violation
may well give ground for proceedings by way of scire facias for the
forfeiture of the charter."45

4.1.5. As a result of the decision in the Bonanza Creek case, the
Ontario Legislature in 1916 passed an amendment to the Ontario Act,

26

which is the predecessor to Section 287 of the present Act46 intended,
presumably, to give effect to the principles in that case. Prior to the
Bonanza Creek decision it had been believed that an Ontario company
could do only those acts authorized by its charter, that is, that the
doctrine of ultra vires was applicable. The Bonanza Creek case is gener-
ally interpreted as having held that an Ontario company was not re-
stricted by the doctrine so that a violation of a prohibition in its charter
does not constitute an act beyond its capacity and therefore is not ultra
vires. The amendment to the statute in 1916 provided that an Ontario
company "unless otherwise expressly provided in the Act or instrument
creating it" has and shall be deemed to have had from its creation the
capacity of a natural person. Thus, the 1916 amendment confined the
doctrine of ultra vires to an express restriction "in the Act or instrument"
creating the company.

4.1.6. However, the effect and purpose of the 1916 amendment to the
Ontario Act, which is the predecessor to Section 287 of the present Act,
is put in confusion by the treatment which this subject has received in
Ontario jurisprudence since 1916. A review of the jurisprudence is not,
in our opinion, helpful to the determination of the question of principle
faced by the Committee. If it is concluded that the limitation of a com-
pany's capacity by rendering ultra vires those acts prohibited by its
charter is neither desirable nor warranted as protection for shareholders
or investors or, perhaps alternatively, is not effective to achieve such pro-
tection, should not the doctrine of ultra vires be abolished? The Com-
mittee has concluded that there is no reason why acts of a company
should be held to be ultra vires, as regards third parties, if done in con-
travention of some limitation or prohibition in the company's charter. An
extension and clarification of the duties and responsibilities of directors
towards the company and its shareholders is, in the Committee's opinion,
a more desirable route by which to achieve protection of creditors and
investors than is the unclear ultra vires doctrine which in its application
has given rise to serious problems for third parties dealing with com-
panies.

4.1.7. The Committee therefore recommends that the controversial
Section 287 be repealed and that a provision substantially as follows
be substituted therefor17:

"Every corporation (a) has and shall be conclusively deemed to have
had from its incorporation the capacity of a natural person, and that
capacity, as regards third parties, is not limited by the terms of its
charter; and (b) may exercise its powers beyond the boundaries of
Ontario to the extent permitted by the laws in force where the
powers are sought to be exercised, and may accept extra-provincial
powers and rights."

27

By these recommendations the ultra vires doctrine, with all its attendant
difficulties to the commercial public, would thereby be removed from
Ontario law. If the Committee's further recommendation in Section 1
of Chapter VIII is adopted, the individual shareholder will be accorded
the right to require compliance by the company with the provisions of
its charter and by-laws.

41. Report of the Committee on Company Law Amendment, 1945, Cmd. 6659,
paras. 11 & 12.

42. (1875) L.R. 7 H.L. 653.

43. Gower, supra at p. 85.

44. [1916] 1 A.C. 566.

45. [1916] 1 A.C. 566 at 584.

46. Section 210 enacted by S.O. 1916, 6 Geo. V, c. 35, s.6.

47. cf. Section 203 of the New York Business Corporation Law.

28

CHAPTER IV

Capacity and Powers of Companies

Section 2.

The Doctrine of Constructive Notice.

4.2.1. Under the United Kingdom Companies Act the memorandum
and articles of association of a company are registered in a public office
and are open for public inspection. The memorandum and articles of
association are therefore public documents and, accordingly, by English
law, anyone, whether a shareholder or an outsider, who has dealings
with the company must be taken to have notice of the contents of the
memorandum and articles. According to this doctrine of constructive
notice persons dealing with the company are presumed not only to have
read the documents in question but to have understood them according
to their proper meaning.48

4.2.2. The doctrine or rule of constructive notice therefore entails
important consequences so far as United Kingdom companies are con-
cerned, inasmuch as the articles of association prescribe the internal
rules and regulations of the company, specifying the powers of the
directors and officers and similar significant matters of internal organiza-
tion and structure. The doctrine operates in favour of and not against
the company so that a person dealing with the company cannot claim
the benefit of the rule as to constructive notice if he has not, in fact,
examined the memorandum and articles and if, when contracting with
a company, he was unaware of the provision on which he wishes to rely.

4.2.3. Conversely, under Ontario law, since the by-laws of a company
(which correspond to the articles of association) are not documents of
public record, a third party dealing in good faith with a company with-
out notice or knowledge of any defect or irregularity is entitled to assume
that all necessary acts have been done or taken by the directors and
shareholders of the company provided only that the transaction is within
the powers of the company. Under the Ontario Act only the letters
patent and supplementary letters patent are documents of public record
and a company is not, therefore, entitled to escape from the obligation
of a contract entered into between it and a third party acting in good
faith by setting up any breach of the company's by-laws or other regu-
lations governing its internal affairs.49 It follows, therefore, that the rule
or doctrine of constructive notice, so far as Ontario companies are con-
cerned, is applicable only to the provisions of the letters patent and
supplementary letters patent. In order to make effective the recommend-
ation in Section 1 of this Chapter that the ultra vires doctrine be
removed from Ontario law, the Committee recommends that by appro-
priate amendment to the Act the rule or doctrine of constructive notice

29

be abolished as it might otherwise relate to the certificate of incorpor-
ation and amendments thereto contemplated by the recommendations
in Chapter I of this Report.

48. Palmer, supra at 242 et seq.; Gower, supra at 141 et seq. However, so far as
everything appears regular as can be checked from the public documents, a
third party dealing with the company is entitled to assume that all internal
rules and regulations of the company have been complied with, unless he has
knowledge to the contrary or there are suspicious circumstances which put
him on enquiry: Royal British Bank v. Turquand, (1856) 6 E. & B. 327;
Mahony v. East Holy ford Mining Co. (1875) L.R. 7 H.L. 869.

49. Re W. N. McEachren & Sons Ltd. [1933] O.R. 349 (C.A.) ; Walton v. Bank
of Nova Scotia, [1964] 1 O.R. 673 at 687 et seq.

30

CHAPTER V

Share Capital

Section 1.

Non-voting Common Shares.

5.1.1. Should a company be permitted to issue common shares which
carry no voting rights? Under the Ontario Act the letters patent or
supplementary letters patent of a company may provide for voteless
preference shares, but each common share is required to carry one or
more votes.50

5.1.2. The law in Ontario regarding the right to vote at meetings of
shareholders has undergone a major change since the enactment of the
Joint Stock Companies Letters Patent Act, 1874.51 That statute provided
that "In default only of other express provisions in such behalf by the
letters patent or by-laws of the Company ... at all general meetings of
the Company, every shareholder shall be entitled to as many votes as
he owns shares in the Company . . .". Pursuant to this statutory pro-
vision, a company could therefore provide for non-voting common
shares. This principle remained unchanged until 1953 when the present
Sections 27(2) and 29 were enacted permitting restrictions or prohibi-
tions on the voting rights attached to preference shares. Thus, from
1874 to 1953, the charter or by-laws of a company could restrict or
eliminate the right to vote in regard to any class of shares, preference or
common. After 1953, voting rights could be restricted or eliminated in
regard to preference shares only. The Committee is advised that during
the period from 1874 to 1953 only a relatively few charters were issued
providing for voteless common shares.

5.1.3. None of the briefs or submissions made to the Committee
advocated the adoption of the voteless common share. The topic was,
nevertherless, studied by the Committee because the non-voting common
share is permitted under the Companies Acts of all other Provinces of
Canada except Prince Edward Island52 and because the question of the
retention of the voteless equity share was a very contentious issue before
the Jenkins Committee.53 In certain of the Provinces the use of the
voteless common share is said to be widespread. The Registrar of Com-
panies of Alberta, for example, advised the Committee that:

"The non-votin? shares provision is used rather extensively both by
Private and Public companies, and insofar as I have been able to
determine no evidence of abuse or inequities have been reported to
this office, although no doubt such a restriction could be abused by
unscrupulous persons."

31

Again, the Director of the Companies Branch of the Department of the
Provincial Secretary of Manitoba stated:

"... I find that the creation of nonvoting common shares is be-
coming increasingly popular [under the new Companies Act which
came into force in November 1964] but to date it is being used
solely for estate planning purposes in private companies. To my
knowledge no Manitoba company has made a public offering of
nonvoting common shares."

No abuses or improprieties were reported in any of such Provinces aris-
ing from the use of common shares carrying no right to vote.

5.1.4. In the United States, the use of voteless common shares largely
died out subsequent to the mid-1920's as a result of the combined dis-
approval of the device by, first, the New York Stock Exchange and,
later, the Securities and Exchange Commission.

5.1.5. In the United Kingdom the issue has been a contentious one.
As the Jenkins Committee stated:54

"No exception is taken to the restriction of voting rights so far as
preference shares are concerned, but the practice of issuing ordinary
or 'equity' shares without any right of voting, though not without its
supporters, has been strongly criticized, and it is no exaggeration to
say that there was a more marked division of opinion amongst our
witnesses on this matter than on any other."

The non- voting common share is in widespread use in the United Kingdom
even in the case of publicly-owned companies listed on stock exchanges.
The opponents of the voteless equity share hold that, as a matter of
principle, it is wrong that holders of shares representing a minor pro-
portion of the equity or, perhaps, preference shares carrying no interest
in equity should have voting control to the exclusion of shareholders
representing a majority proportion of equity. A closer study of the
United Kingdom controversy is, however, probably not germane to a
consideration of the same question as pertaining to Ontario law and
practice as the English problems concerning the voteless common share
seem to be local issues.

5.1.6. Cogent and well-reasoned arguments can be made against the
use of the voteless equity share.55 Certainly their use is a derogation
from the principle well founded in the company law of Ontario and
most other jurisdictions that ultimate control over management, i.e. the
directors, should be exercised by equity shareholders in general meeting.
As noted above, none of the briefs or submissions made to this Com-
mittee urged the adoption of the non-voting common share. In the Com-

32

mittee's opinion, no case has been made out either for corporation or
tax law purposes, which would warrant the adoption of voteless common
shares in the law of Ontario. The dangers inherent in that type of
capitalization outweigh any evidence of its apparent usefulness.

50. Sections 27(2) and 29 respectively.

51. S.O. 1874, 37 Vict. c. 35, s. 22.

52. The Canada Corporations Act, by its terms, does not prohibit voteless com-
mon shares; however, Departmental practice is to refuse incorporation on
the basis of a share capital, the holder of any share of which is deprived of
the right to vote.

53. Jenkins Report, paras. 123-140.

54. Jenkins Report, para. 123.

55. Professor L. C. B. Gower and two other distinguished members of the Jenkins
Committee appended a Note of Dissent to the Jenkins Report, which Note
sets out the significant objections to non-voting common shares.

33

CHAPTER V

Share Capital
Section 2.
Purchase by a Company of its Own Shares.

5.2.1. The Ontario Act provides that if a company has more than
one class of shares, one class shall be common shares designated as
such.56 The other class or classes of shares shall be preference shares
but need not be designated as preference shares. If a company has more
than one class of shares, the letters patent or supplementary letters
patent must confer on the other class or classes of snares (which must
be preference shares howsoever designated) some preference or right
over the holders of the shares of the other classes.57 The charter of a
company may authorize the company to purchase preference shares for
cancellation or, at its option, to redeem all or any part of any class of
preference shares.58 However, preference shares without par value cannot
be made subject to purchase for cancellation or redemption.59 Where
preference shares with a par value are to be redeemed or purchased for
cancellation, the maximum price that can be paid by the company on
the redemption or purchase for cancellation is (except in the case of
open-end investment companies, sometimes referred to as "open-end
mutual funds") the amount paid up on the shares together with unpaid
dividends and a premium which, under the Regulations60, cannot exceed
20% of the amount paid up thereon. Preference shares cannot be re-
deemed or purchased for cancellation if the company is insolvent or
if the redemption or purchase would render the company insolvent.61
Where preference shares are purchased for cancellation or redeemed,
they are thereby cancelled and cannot be re-issued; the authorized and
the issued capital of the company are thereby decreased.62

5.2.2. Accordingly, the Act permits the creation of shares which can
be purchased for cancellation or redeemed by the company, but any
such shares must be preference shares (howsoever designated), that is
to say, they must carry some preference or right over the holders of
shares of another class, either preference or common. Redemption or
purchase for cancellation of preference shares is treated by the Act as a
form of return of capital to the shareholder and, for this reason, the
redemption or purchase price is limited by a Regulation under the Act
to 120% of the capital which has been paid to the company in respect
of such shares.

5.2.3. In 1887 the House of Lords decided in the leading case of
Trevor v. Whitworth™ that a limited company could not purchase its
own shares:

34

"Paid-up capital ma\ be diminished or lost in the company's
trading: that is a result which no legislation can prevent; but per-
sons who deal with, and give credit to a limited company, naturally
rely upon the fact that the company is trading with a certain amount
of capital already paid, as well as upon the responsibility of its
members for the capital remaining at call; and they are entitled to
assume that no part of the capital which has been paid into the
coffers of the company has been subsequently paid out, except in
the legitimate course of its business."

When Trevor v. Whitworth was decided, the principle of limited liability
for companies, which was introduced into the United Kingdom Com-
panies Act only in 1855, was a relatively new concept, and this no
doubt influenced the House of Lords in protecting the position of
creditors. It is to be noted that the Trevor v. Whitworth rule is not
founded on ultra vires or lack of capacity but on the quite different
ground that the transaction is illegal or unlawful.

5.2.4. Should a company be permitted to purchase its own common
shares? It has been necessary for the Committee to determine whether
or not the rule of law in Trevor v. Whitworth should continue to apply
in Ontario so as to prohibit the purchase by companies of their own
common shares. Over fifty years of experience in Ontario with redeem-
able preference shares and the experience in the United States with the
right to purchase common shares would indicate that, provided adequate
safeguards exist, there need be no apprehension concerning the protec-
tion of the rights of creditors and others in permitting companies to pur-
chase their shares. It should be noted that the prohibition derived from
Trevor v. Whitworth is widespread, prevailing not only in the United
Kingdom but also in all the jurisdictions in Canada and all the juris-
dictions in Australia as well as in New Zealand and the Union of South
Africa.

5.2.5. The traditional opposition to abolishing the rule in Trevor v.
Whitworth was expressed by the Jenkins Committee as follows:

" 167. The case of Trevor v. Whitworth (1887) 12 App. Cas. 409
established that it is unlawful for a limited company to purchase its
own shares, such a purchase being regarded as a reduction of its
share capital. There is now a statutory exception to this rule in the
form of section 58 of the Act, which permits a company to redeem
preference shares but imposes safeguards which are designed to en-
sure that the amount of the issued share capital is preserved intact.
In the United States there is no general rule prohibiting limited
companies from buying their own shares and we have considered
whether this general rule should be retained in our law. In the
opinion of our American witnesses the power enjoyed by companies

35

in the United States has not led to abuse and it is useful for a num-
ber of purposes. An American company wishing to provide its em-
ployees with shares as part of a bonus plan or a profit sharing
scheme, or to acquire other companies, will often accumulate a
sufficient number of its own shares by purchase in preference to
issuing new shares and thereby unnecessarily increasing its issued
share capital. As companies in the United States are generally free
to reduce their share capital without the consent of the Court, this
power for a company to buy its own shares also makes it possible
to effect a selective reduction of capital, the shares of those members
who wish to sell them being bought by the company and then can-
celled; members of small companies wishing to retire are often
bought out in this way. If a company buys its own shares and does
not cancel them, those shares may be re-issued, but in the meantime
no votes may be cast and no dividends may be paid in respect of
them. Our witnesses pointed out, however, that the case law of the
United States imposes very strict liabilities on directors and they
considered that this would deal adequately with any abuse of the
power by a company or its directors.

" 168. In our view, if the Companies Act were amended to give a
limited company a general power to buy its own shares it would be
necessary to introduce stringent safeguards to protect both creditors
and shareholders. We think it would be possible to devise effective
safeguards and we do not think they need to be unduly complicated.
On the other hand, we have received no evidence that British com-
panies need this power and the relatively few witnesses who offered
any evidence on this matter were almost unanimous in opposing
the introduction of a general power for companies to buy their own
shares. The power might occasionally be useful when a minority
of the members of a small company whose shares were not readily
marketable wished to retire from the company and the other mem-
bers were unable or unwilling to buy their shares at a fair price;
we doubt if such a power would often be exercised for this purpose
since it would usually give rise to a surtax assessment in respect of
past profits of the company still undistributed and, in cases where
tax difficulties can be overcome, a quasi-purchase of the shares of
the company can be, and in practice is, carried out by the machinery
of a reduction of capital by repaying those shares at a premium.
We have therefore reached the conclusion that there is no justifica-
tion for the general abrogation of the familiar rule that a limited
company may not buy its own shares; indeed, we think that the rule
should be expressly stated in the Act."

5.2.6. As the Jenkins Report indicates, in the United States there is
no general rule prohibiting companies from buying their own common

36

shares. In fact, the opposite appears to be the case: the company law
statutes of every one of the United States, either expressly or impliedly,
recognize the right of a company to purchase its own common shares
subject to certain restrictions pertaining to solvency, the existence of
earned surplus or other safeguard measures.

5.2.7. The Trevor v. Whitworth rule has been extended in many juris-
dictions by statutory provisions which preclude a company, with certain
exceptions, from being a shareholder of its own holding company or
from providing financial assistance for the purchase of its own shares.64
The weakness of the rule is, however, pointed up by an analysis made
by a leading author who stated65:

M(l) There is no requirement that shares must be of a reasonable
nominal value and that part of this value must be left un-
called . . .

(2) There is equally no requirement of a minimum paid-up capital

( 3 ) Since shares may be issued for a consideration other than cash,
and since the courts will not normally investigate the adequacy
of the consideration, there is not even any assurance that the
company ever received assets equivalent to the nominal value
of its issued capital.

(4) Even if the capital has been raised, the law cannot ensure that
it is not lost in subsequent trading; at the most it can prevent
its being repaid to the members . . .

Having regard to these weaknesses, it may well be that these rules
have outgrown their usefulness just as the ultra vires doctrine has."

5.2.8. There are many legitimate and useful reasons for a company
wishing to purchase its own shares. For example, companies may wish
to purchase outstanding common shares in order to provide for in-
centive, bonus or stock option plans without being required to extend
their equity base to provide the required shares. Purchase of outstanding
common shares is a feasible method whereby a company could contract
its equity base as the financial requirements of the company may dictate.
The right to purchase common shares could also facilitate mergers and
acquisitions in some cases and certainly provides a much needed flexi-
bility for closely-held companies and their shareholders in the event of
the death or retirement from the business of one of the principal share-
holders.

5.2.9. The Committee therefore recommends that the Ontario Act
be amended so as to effect the abolition of the rule in Trevor v. Whit-
worth and recommends that provisions be enacted comparable substan-

37

tively to Sections 513, 514 and 515 of the New York Business Corpora-
tion Law.66 The effect of this recommendation, if implemented, would
be that a company may, subject to any restrictions contained in its
charter, purchase its own common shares out of surplus unless the cor-
poration is insolvent or would thereby be made insolvent. Further, com-
panies would be permitted to purchase their outstanding common shares
out of capital (subject to the solvency test) if the purchase is made for
certain specified purposes such as eliminating fractions of common
shares or collecting or compromising indebtedness to the company. Out-
standing common shares which are thus re-acquired by a company may
either be retained as "treasury shares" or cancelled by the directors, ex-
cept that common shares so re-acquired out of capital shall be cancelled
upon re-acquisition.

5.2.10. The Committee, however, recognizes the distinction which
differentiates a purchase by a company of its own common shares
at values which reflect the net worth of the company from the pur-
chase or redemption of preference shares at prices which equate the
amount paid up thereon plus a premium of a limited amount. It is
therefore recommended that the revisions to the Act should provide that
the power of a company to purchase its outstanding common shares
shall be exercised only by the directors acting in good faith and in the
best interests of the company. Violation of the statutory restrictions on
the right to purchase would give rise to liability on the part of directors
or shareholders who authorized or received the payment of purchase
money for common shares acquired in violation of the statutory safe-
guards. Because a company's trading in its own shares can be said to be
a form of "insider trading", the Committee further recommends that
Section 86 of the Act should be amended to require the disclosure, in
the balance sheet or a note thereto, of the dates of purchase and sale
by the company in the year of any equity shares carrying voting rights
under all circumstances and the prices at which such purchases and sales
were made.

56. Section 26.

57. Section 27(1).

58. Section 27(2).

59. Section 27(4).

60. O. Reg. 61 s. 32.

61. Section 27(12).

62. Section 27(13).

63. (1887) 12 App. Cas. 409.

64. In the Ontario Act, Section 94 and Section 23 respectively.

65. Gower, supra at 114 et seq.

66. See Appendix B for these provisions of the New York Business Corporation
Law.

38

CHAPTER V
Share Capital

Section 3.

Mutual Fund Shares.

5.3.1. The open end investment company or "mutual fund" is now
in common use throughout Canada. While the provisions of the Ontario
Act do not prohibit the incorporation of a company with share capital
appropriate to a mutual fund, the present provisions of the Act limit the
payment of the redemption price for shares purchased by the mutual
fund at the instance of the holders thereof to redemption out of a fund
established for such purchase at a price "as near as may be to the actual
value thereof".*'7 This restriction is not compatible with the structure of
the share capital of most mutual funds with the result that the great
majority of mutual funds have been incorporated under the Canada
Corporations Act (or its predecessors) which in 1965 was amended to
provide specifically for "mutual fund shares".

5.3.2. In order to facilitate the incorporation of open-end investment
companies or mutual funds under the laws of Ontario, the Committee
recommends that the Act be amended to include provisions com-
parable to those enacted in the Canada Corporations Act in 196568 pro-
viding specifically for "mutual fund shares". Such amendments would
eliminate the technical difficulties experienced under the Ontario Act in
the past and would enable the ready incorporation in Ontario of com-
panies having the particular type of share capital appropriate to the
mutual fund.

5.3.3. The Committee's recommendation in this Section is essentially
of a technical nature and does not, of course, touch upon the difficulties
which may exist concerning the marketing of mutual fund shares, a
subject which the Committee did not consider to be within its terms of
reference.

67. Section 27(6).

68. Section 12A.

39

CHAPTER VI
Transfer of Shares

Section 1.

Provisions as to Share Transfer in the Ontario Act.

6.1.1. A share of a company has been denned as "... an aliquot
separate integral part of the authorized capital of a company".69 As a
fractional part of the capital, a share confers upon the holder rights to
a proportionate part of the assets of the company, whether by way of
dividend or on distribution of assets on winding up. The company's
assets, however, are the property of the company; the shares of the com-
pany are the property of the shareholders. A share certificate, on the
other hand, is merely evidence that the person in whose name the cer-
tificate is registered is a shareholder of the company. As stated in the
Ontario Act, a share certificate is prima facie evidence of the title of the
shareholder to the shares represented thereby. A share has been de-
scribed as "... a bundle of several rights and liabilities".70 Such rights
include the right to duly declared dividends, the right to vote, rights on
winding up to participate in the distribution of assets. In addition, the
Act itself confers certain individual rights on shareholders arising from
ownership of shares: for example, the right of a shareholder to a share
certificate in respect of the shares held by him, the right to receive notice
of meetings of shareholders, the right to receive financial statements,
the right to inspect minutes of meetings of shareholders and certain
documents and registers required to be maintained pursuant to the Act
and the right to apply to the court for the winding-up of the company.

6.1.2. Shares of a company are personal estate and transferable as
such by the shareholder. Indeed, when joint stock companies were estab-
lished in the United Kingdom, the great object was that shares should
be capable of being easily transferred. Share certificates, on the other
hand, are not negotiable instruments; they may pass by delivery but
subject to the equities. The provisions of the Ontario Act dealing with
transfers of shares are largely derived from the United Kingdom Com-
panies Acts and can fairly be said to constitute a "book stock" system
of transfer roughly comparable to a land registration system. The Act
states that shares of a company are transferable "on the books of the
company" subject to such conditions and restrictions as are prescribed
in the Act or in the charter. A "private company" is, by statutory defini-
tion, a company as to which by charter the right to transfer shares is
restricted. To a large extent, therefore, this Chapter is concerned with
"public" rather than "private" companies as those terms are presently
used in the Act.71

40

6.1.3. The Committee eonsidered how these "bundles of rights'' are
made transferable under the existing provisions of Ontario law in order
to ascertain if the present methods of transferring shares are adequate
to meet the needs of present day stock exchange techniques and the de-
mands of the financial community. The study indicated that, as a prac-
tical matter, the existing share transfer system works reasonably well,
largely, however, because the brokerage community treats share cer-
tificates in "street form" as though they were in fact negotiable instru-
ments.72 In other words, the existing practices depend on the assumption
that the certificate passes title to the shares which it represents. This
assumption is encouraged by the by-laws and rules of The Toronto Stock
Exchange which state, in effect, that the delivery of certificates in street
form shall be deemed to be good delivery. To the extent, therefore, that
Ontario can be said to have (to use the American phrase) a "negotiable
instruments law for investment securities", it is because of the rules and
practices of The Toronto Stock Exchange and the brokerage community.
In the market place, it is frequently inconvenient or impossible for each
of successive transferees of shares traded in the listed or unlisted market
to become registered as shareholders. While share certificates are not
negotiable instruments, Ontario law is to the effect that share certificates
properly endorsed in blank by the registered owner are, in the hands of
a lawful holder, recognized as property, rights and interests which entitle
the possessor to be registered as owner. The holder for the time being
of such a certificate takes not the property in the shares but a title, legal
and equitable, which will enable him to vest himself with the shares
without the risk of his right being defeated by any other person deriving
title from the registered owner. However, the holder of any such cer-
tificate takes the shares represented thereby subject to any infirmity in
the title of the person from whom he acquires them so that if the share
certificates were lost by or stolen from the owner the subsequent holder
of the certificate is vested with no title whatsoever to the shares repre-
sented thereby.

6.1.4. The Committee has concluded that the provisions in the Ontario
Act relating to transfers of shares are at variance with the practices in
the financial community and should be substantially changed in order
to eliminate the anomalies and inconsistencies which exist between the
applicable law and the prevailing practices. In order to lay the ground
work for the Committee's recommendations in this regard, it is neces-
sary to examine in some detail the present statutory provisions relating
to the transfer of shares of Ontario companies.

6.1.5. The relevant provisions of the Ontario Act are Sections 37 to
51 inclusive and their principal features may be summarized as follows.
Every company is required to keep a register of transfers in which all
transfers of shares and the date and other particulars of each transfer

41

are set out. Branch registers of transfers are authorized and the registra-
tion of a transfer of a share on a branch register of transfers is a valid
registration for all purposes. A company may appoint a transfer agent
and one or more branch transfer agents to keep the register of transfers
and any branch registers of transfers. Every shareholder is entitled to a
share certificate in respect of the shares held by him and such certificate
is prima facie evidence of the title of the shareholder to the shares repre-
sented thereby. Shares are transferable "on the books of the company"
subject to such conditions and restrictions as may be prescribed in the
Act or the charter of the company. The Act further provides that no
transfer of shares (subject to certain exceptions not here material) is
valid for any purpose whatsoever until registration thereof has been duly
made in the register or branch register of transfers "save only as ex-
hibiting the rights of the parties thereto toward each other . . ." To this
rule, however, an important exception is made in that the Act further
provides that notwithstanding the provision last referred to, where fully
paid shares are listed on a recognized stock exchange, delivery of a
certificate for such shares with a duly executed instrument of transfer
endorsed thereon or accompanying it constitutes a valid transfer of the
shares represented by such certificate. The directors may refuse to
permit the registration of a transfer of shares on the books of the com-
pany (presumably whether or not the shares are listed on an exchange)
for the purpose of notifying the registered shareholder of the "applica-
tion for such registration".

6.1.6. This share transfer system contemplated by the Act is, plainly,
an old fashioned "book stock" or registration of title concept which
seems, historically, to have evolved in the 19th century as a result of the
refusal of the law to recognize a company share as a chose in action
and a share certificate as a negotiable instrument. Nothing useful is said
in the Act as to the method of assignment or transfer of shares as be-
tween the transferor and the transferee or of their respective rights and
liabilities except that some instrument of transfer is contemplated by
the statute,

6.1.7. Numerous substantial difficulties arise from the share transfer
procedures contemplated or required by the Act, including the follow-
ing: the courts have been disinclined to interpret Section 49(2) in
accordance with the literal meaning of the language, that is, the courts
have not held, as the statute provides, that delivery of certificates for
shares listed on a recognized stock exchange constitutes valid transfer
of the shares represented by such certificates73; the statutory concept is
that shares of companies are transferable only "on the books of the com-
pany", a concept which is ignored in practice so far as shares repre-
sented by street form certificates are concerned; the company, as the
unwilling custodian of the transfer records, is, under certain circum-

42

stances, made liable for recording "improper" transfers whereas the
liability in most cases should be ascertained as between the transferor
and the transferee and not between third parties and the company which
is not a party to the transfer transaction but merely the custodian of the
transfer books; the role and purpose of the instrument of transfer or
power of attorney is not made clear in the statute and accordingly its
function is uncertain and obscure; no statutory guidance is given to the
effect and scope of endorsements of certificates or guarantees of en-
dorsements nor are guidelines available for transfer agents and the finan-
cial community generally as to share transfers involving fiduciaries or
minors.

6.1.8. The Committee has concluded that the law should be brought
in line with the requirements of the changing stock exchange and
transfer agency practices and adapted to the developing technological
changes which have antiquated the concept of shares being transferred
"on the books of the company". The legal relationships between trans-
ferors and transferees, between brokers and transfer agents and between
the company and third parties should be clarified. In an honest effort
to arrive at equitable solutions in particular factual situations concern-
ing share transfers where one or more innocent parties are usually
involved, courts have failed to develop adequate judicial guidelines
in determining the questions of legal relationships among the various
parties to the share transfer. The Committee has further determined that
the Ontario Act should recognize the realities of the share transfer tran-
sactions as to shares listed on The Toronto Stock Exchange and
as such transactions occur in the unlisted market in Ontario. There is,
moreover, no reason to limit the Committee's recommendations to share
transfers only — legal reform is required in respect of security transfer
transactions of all kinds. The Committee has concluded that the enact-
ment of a comprehensive code to govern and regulate all corporate
security transfer transactions is desirable and in the public interest.

6.1.9. In making the recommendations which follow the Committee
does not thereby intend to intrude upon or deal in any material way
with the essential legal attributes and characteristics of the company
share, the nature of which is referred to in paragraph 6.1.1.

69. Fraser & Stewart, supra at 179.

70. Palmer, supra at 281.

71. See, however, the recommendations in Section 1 of Chapter II.

72. A "street form" certificate in this sense is a certificate registered in the name
of a stock exchange member and duly endorsed or a certificate registered in
the name of any other person or firm and duly endorsed with endorsement
guaranteed by a stock exchange member.

73. Chartered Trust and Executor Company and Cochenour-Willans Gold Mines
Limited v. Par/on and Indemnity Insurance Company of North America,
[1950] O.R. 662.

43

CHAPTER VI
Transfer of Shares

Section 2.

The Uniform Commercial Code — Article 8.

6.2.1. The Uniform Stock Transfer Act has been incorporated into
the law of the great majority of the United States, thereby enacting a
code as to corporate security transfers which provides a "negotiable in-
struments law for securities" which, among other features, accord share
certificates some of the characteristics of negotiable instruments. This
useful Uniform Act, however, is in the course of being replaced in the
various United States by The Uniform Commercial Code — Article 8
which relates to a wider field of investment securities and which extends
the concept of negotiability of such securities. There is no reason why
The Uniform Commercial Code — Article 8 could not be appropriately
adapted to the language and context of the Ontario Act and the Com-
mittee therefore recommends that the Act be amended by deleting the
existing provisions relating to share transfers and share certificates and
substituting therefor a corporate securities transfer code modelled closely
after Article 8 of The Uniform Commercial Code with appropriate
changes of terminology. The code should be included in the Act as a
separate Part.

6.2.2. The adoption of such a securities transfer code should not,
it is submitted, interfere adversely with the developed practices of
Canadian stock exchanges and the financial community generally. In fact,
one of the effects of the adoption of such a code would be to bring the
statutory law in line with such practices and, in the opinion of the Com-
mittee, would significantly upgrade the prevailing practices to the mutual
benefit and advantage of the investing public, the stock exchanges, and
transfer agents and brokers. The code would broadly define the "securi-
ties" to which it applies and would state that such securities would be
negotiable instruments. "Security" would be defined with the objective of
including shares, bonds and all other types of documents commonly
traded or dealt in as investments. The definition would be functional
rather than formal and designed to include anything which securities
markets, whether stock exchanges or the "over-the-counter markets",
are likely to regard as suitable for trading, except commodity futures.

6.2.3. The Uniform Commercial Code — Article 8 as modified by
officially recommended amendments is annexed to this Report as Ap-
pendix C. It is recommended that the new Part to be included in the
Ontario Act, modelled after Article 8, should consist of 4 Divisions.
The first Division would incorporate the required definitions of terms

44

and presumptions and certain general matters. The second Division
would relate to the company as the issuer of the securities and would
set out the duties, obligations, rights and defences imposed upon or
available to the company in respect of transfers of securities, including
provisions with respect to restrictions on transfer and the effect of un-
authorized signatures and warranties of authenticating transfer agents,
registrars or trustees. The third Division would state the legal duties
and responsibilities as between transferors and transferees of securities,
the effect and scope of warranties, endorsements and guarantees and
statements as to what constitutes delivery and as to the role of the broker.
The fourth Division would relate to the registration of transfers of
securities and would define the duties of the company and its transfer
agent or branch transfer agent, specifying those situations in which
liability could be incurred in respect of registrations of transfers and
stipulating when a duty to inquire arises and what treatment is to be
accorded to lost, stolen or destroyed securities.

45

CHAPTER VI
Transfers of Shares

Section 3.

Supplementary Recommendations.

6.3.1. A newly developing and commercially useful method of trans-
ferring or pledging securities, particularly among brokers and banks but
not necessarily so limited, is shortly to be put into effect at the New York
Stock Exchange. This is a central depository system, in the case of the
New York Stock Exchange called Central Certificate Service, operated
by a Stock Clearing Corporation, which is a wholly-owned subsidiary
of the Exchange. This system of transfer has evolved from a series of
pilot studies conducted by the New York Stock Exchange and has been
under study by The Toronto Stock Exchange. The new transfer method
is intended to facilitate the increasing volume of exchange transactions
and in doing so eliminates physical deliveries of share certificates and
reduces problems arising from loss, theft and mutilation of share certifi-
cates. The system permits a mechanized clearing house where purchases
and sales of securities are reflected by accounting entries and not by
physical deliveries. By recommending the enactment of an adapted Uni-
form Commercial Code — Article 8 in Section 2 of this Chapter, the
Committee is thereby recommending the necessary legislative changes
to permit the establishment of a central depository system and Stock
Clearing Corporation inasmuch as the 1962 officially recommended
amendments to Article 8 introduce into Article 8 the necessary pro-
visions to give effect to the new transfer of securities system. The system
may best be described by quoting from §8-320 of the Uniform Com-
mercial Code — Article 8:

" ( 1 ) If a security

(a) is in the custody of a clearing corporation or of a cus-
todian bank or a nominee of either subject to the instructions of
the clearing corporation; and

(b) is in bearer form or indorsed in blank by an appropriate
person or registered in the name of the clearing corporation or
custodian bank or a nominee of either; and

(c) is shown on the account of a transferor or pledgor on the
books of the clearing corporation;

then, in addition to other methods, a transfer or pledge of the
security or any interest therein may be effected by the making of
appropriate entries on the books of the clearing corporation reduc-
ing the account of the transferor or pledgor and increasing the

46

account of the transferee or pledgee by the amount of the obligation
or the number of shares or rights transferred or pledged.

(2) Under this section entries may be with respect to like securi-
ties or interests therein as a part of a fungible bulk and may refer
merely to a quantity of a particular security without reference to the
name of the registered owner, certificate or bond number or the like
and. in appropriate cases, may be on a net basis taking into account
other transfers or pledges of the same security.

(3) A transfer or pledge under this section has the effect of a de-
livery of a security in bearer form or duly endorsed in blank (Section
8-301) representing the amount of the obligation or the number of
shares or rights transferred or pledged. If a pledge or the creation
of a security interest is intended, the making of entries has the effect
of a taking of delivery by the pledgee or a secured party (Sections
9-304 and 9-305). A transferee or pledgee under this section is a
holder.

(4) A transfer or pledge under this section does not constitute a
registration of transfer under Part 4 of this Article.

(5) That entries made on the books of the clearing corporation
as provided in subsection (1) are not appropriate does not affect the
validity or effect of the entries nor the liabilities or obligations of the
clearing corporation to any person adversely affected thereby."

The terms "clearing corporation" and "custodian bank" are defined in
Article 8.

6.3.2. The Ontario Act requires every certificate representing prefer-
ence shares to state thereon in legible characters the share provisions
attaching to the particular preference shares of that class. In view of the
prolixity of preference share provisions, this statutory requirement has
long since ceased to be meaningful, if it ever was, both in respect of
closely-held and publicly-held companies. Article 8-202 of the Uniform
Commercial Code which the Committee recommends for adoption in
Ontario states that even against a purchaser for value and without notice,
the terms of a security include those stated on the security and those
made part of the security by reference to another instrument, indenture
or other document or to a statute, etc. We recommend that this pro-
vision be revised to include the technique employed in the new Manitoba
Companies Act74 to the effect that a statement shall be inscribed on each
share certificate that there are conditions and restrictions attached to the
particular class of shares and that the full text thereof is obtainable on
demand, and without fee. from the secretary of the company.

6.3.3. Similarly, it is to be noted that the adoption of Article 8-204
will introduce the principle that "unless conspicuously noted on the

47

security, a restriction on transfer imposed by the share, even though
otherwise lawful, is ineffective except against a person with actual
knowledge of it". If the Committee's recommendations in Chapter II,
Section 1 are implemented, thus abolishing the concept of the "private
company", restrictions on transfers of shares will, as a result of the
recommendations in this Section, be required to be "noted conspicuously"
on share certificates in order to give notice of the fact that the charter of
the company contains restrictions on the free transferability of shares.

6.3.4. The Committee also recommends an amendment of the defini-
tions of the terms "books" and "registers" in the Ontario Act so as to
permit the use of mechanical and electronic means of record-keeping
for companies, including registers of transfers of shares.

74. S.M. 1964 (2d. Session) c. 3, as amended.
48

CHAPTER VII

Duties and Responsibilities of Directors

Section 1.

The Role of the Director.

7.1.1. The Ontario Act provides that the "affairs of every corpora-
tion shall be managed by a board of directors howsoever designated".
This is, historically, a classic statement of the role of the directors in
the corporation law of many jurisdictions. However, this terse descrip-
tion of the functions of directors shows signs of age and, in the Com-
mittee's opinion, should be amended to make it more applicable to the
modern business corporation. The provision would more accurately read
as follows:

"The business and affairs of every corporation shall be managed or
supervised by a board of directors howsoever designated."

7.1.2. Having established that the business and affairs of an Ontario
company are to be managed or supervised by the directors, two most
difficult and fundamental legal questions are then encountered which go
to the basic principles of corporation law. First, what relationship, in
law, exists or should exist between the directors and the company, be-
tween the directors and the shareholders and between the directors and
the creditors of the company or other persons with whom the company
has dealings? Secondly, what, in law, are or should be the duties and
responsibilities of directors in the exercise of their statutory office?

7.1.3. The Companies Acts of the various Anglo-Canadian jurisdic-
tions have traditionally been silent on both of these fundamental ques-
tions. There exists, however, a maze of relevant jurisprudence from
which a series of more or less well-established principles or propositions
have emerged. For example, it is clear that directors, as such, are not
employees or servants of the company. Conversely, directors have been
judicially described as trustees or agents of the company — trustees of the
company's assets and agents in the transactions which they enter into on
behalf of the company. This latter proposition has been qualified by
English courts, however, by the reservation that to describe a director as
a trustee or an agent of the company is not exhaustive of the duties and
responsibilities of a director "but only as indicating useful points of view
from which they may for the moment and for the particular purpose
be considered."75

7.1.4. The legal relationships between the director and those with
whom he deals are reasonably clearly defined and the fewest difficulties,

49

from the public interest standpoint, arise in this area of consideration.
The director is clearly a fiduciary and for that reason in the exercise of
his powers he is bound to act with the utmost good faith for the benefit
of the company.76 As a fiduciary he is accountable to the company for
any profit or gain realized from any dealings with the company's assets
or for any advantage he may secure by reason of his office. It is
equally clear in law however that, barring special circumstances,
the director has no fiduciary relationship with the shareholders of the
company as such, either collectively or individually77 except to the
limited extent now provided in Section 7 Id of the Ontario Act where-
by a director, as an insider of a company, can incur liability to certain
persons (including shareholders) as a result of improper transactions in
the securities of the company. Nor is the director a fiduciary in relation
to the company's creditors or to strangers with whom the company has
dealings.

7.1.5. The study and research carried out by the Committee leads us
to conclude that the problem areas concerning the role of the director
in modern commercial society arise from the present uncertainty of de-
fining the standard of probity, care and diligence with which the director
must discharge the duties and responsibilities of his office. There does not
seem to the Committee to be any impelling need for legislative rules to
define the fiduciary character of the director's role especially now that
the significant problem of liability for and reporting of directors' insider
security transactions has been dealt with by the Ontario Legislature.78
We must return, however, to the second fundamental question posed
above, namely, what, in law, are or should be the duties and responsi-
bilities of directors in the exercise of their office? The difficulties in ascer-
taining, with the commercially desirable degree of definity, the scope of
the director's duties in carrying out his role as a fiduciary to his company
is aptly described in a passage from the judgment of Romer J. in In Re
City Equitable Fire Insurance Company Limited:19

"It has sometimes been said that directors are trustees. If this means
no more than that directors in the performance of their duties stand
in a fiduciary relationship to the company, the statement is true
enough. But if the statement is meant to be an indication by way of
analogy of what those duties are, it appears to me to be wholly mis-
leading. I can see but little resemblance between the duties of a
director and the duties of a trustee of a will or of a marriage settle-
ment. It is indeed impossible to describe the duty of directors in
general terms, whether by way of analogy or otherwise. The position
of a director of a company carrying on a small retail business is very
different from that of a director of a railway company. The duties of
a bank director may differ widely from those of an insurance director,
and the duties of a director of one insurance company may differ

50

from those of a director of another. In one company, for instance,
matters may normally be attended to by the manager or other mem
hers of the staff that in another company are attended to by the
directors themselves. The larger the business carried on by the com-
pany the more numerous, and the more important, the matters that
must of necessity be left to the managers, the accountants and the
rest of the staff. The manner in which the work of the company is to
be distributed between the board of directors and the staff is in
truth a business matter to be decided on business lines . . .

Tn order, therefore, to ascertain the duties that a person appointed
to the board of an established company undertakes to perform, it is
necessary to consider not only the nature of the company's business,
but also the manner in which the work of the company is in fact
distributed between the directors and the other officials of the com-
pany, provided always that this distribution is a reasonable one in
the circumstances, and is not inconsistent with any express pro-
visions of the articles of association. In discharging the duties of his
position thus ascertained a director must, of course, act honestly;
but he must also exercise some degree of both skill and diligence. "

7.1.6. Assuming the enactment into Ontario law of a revised Section
296 as is recommended in paragraph 7.1.1, the authority of the directors
will be stated to extend to the management or supervision of the man-
agement of the business and affairs of the company. Some of the
director's duties embraced within this authority are specified in the Act.
Thus, the directors initiate and enact by-laws which, on confirmation by
shareholders, regulate the internal affairs of the company in all particu-
lars; the directors initiate and pass certain resolutions which, on confirm-
ation by shareholders, become special resolutions which of themselves
authorize a range of important corporate acts; shares in the capital of the
company may be allotted and issued only by the directors; the directors
may borrow money pursuant to duly enacted and confirmed by-laws;
and the directors declare any dividends which the company pays to its
shareholders. As is illustrated by the above quoted passage from the
judgment of Romer J. in In Re City Equitable Fire Insurance Company
Limited, however, these statutory powers or duties by no means exhaust
the scope of the office of the director: "It is indeed impossible to describe
the duty of directors in general terms, whether by way of analogy or
otherwise".

7.1.7. The Jenkins Committee adopted the view of the General
Council of the Bar of the United Kingdom in deciding that any attempt
by statute to define the duties of directors more clearly would involve
the risk of hiatuses or gaps which might make it more difficult to deter-
mine in any particular set of circumstances what those duties were. The

51

Jenkins Committee recommended against the "codification of the exist-
ing law". We do not find it necessary to determine whether or not we are
in agreement with the Jenkins Committee in this respect for in the Com-
mittee's view codification of the existing law would not, in any event,
provide the solutions to the problems confronting directors, share-
holders and the investing public generally arising from the role of the
director in the modern business corporation. The Committee does agree
however, that it would be folly, for example, to attempt to codify the
principles which the courts have developed from the fiduciary concept
in imposing implied restrictions on the exercise of a discretion of a
director in the discharge of his duties. Nor would it seem possible to
codify into statutory principles the guidelines used by the courts in
determining what constitutes a secret profit or an abuse of confidence
on the part of a director. Since the director is both an agent and "some
kind of" a trustee, the courts should remain free, unfettered by a codifi-
cation of principles, to develop from the law of agency and the law of
trusts the duties and responsibilities of directors arising from the multi-
tude of varying factual situations which can exist. The development of
company law has never been confined to statute and it would be unwise
to deprive the future development of the law concerning the role of the
director of the past and future benefits of jurisprudential opinion.

75. Imperial Hydropathic Hotel Company, Blackpool, v. Hampson (1882) 23 Ch.
D. 1 at 12.

76. The Sun Trust Company Limited v. Wilfrid Begin ct al. [1937] S.C.R. 305.

77. Percival v. Wright [1902] 2 Ch. 421.

78. An Act to Amend The Corporations Act, S.O. 1966 c. 28.

79. [1925] Ch. 407 (C.A.) at 426 et seq.

52

CHAPTER VII
Duties and Responsibilities of Directors
Section 2.

Standard of Conduct and Care Required of Directors.

7.2.1. The law is clear as to what duties of good faith are owed by
the director to the company arising from his fiduciary relationship.
What is not clear, however, is the proper measure or standard of the
duties of probity, care, diligence and skill owed by the director to the
company in the discharge of his office. Here the trustee analogy breaks
down80 and even the honest, well intentioned director is left to flounder
in a sea of murky jurisprudence. Directors manage or supervise the
management of businesses. As such, so far as commercial enterprises are
concerned, they cannot owe the duties of care, diligence and skill owed
by trustees — as business managers they must be risk-takers seeking a
profit for the company and its shareholders.

7.2.2. In researching and studying the role of the company director
in contemporary commercial society, both with respect to the closely-
held corporation and the publicly-held corporation, the Committee has
determined that it is not the director's fiduciary relationship to the com-
pany which is unclear in the law, nor do the precise scope or nature of
his duties and responsibilities need codification. Leaving aside the im-
portant matter of enforcement of remedies as to which much is said
below, the question ultimately faced by the Committee was simply this:
what, in law, is the standard of conduct and care which should prevail
in the board room? The Committee is of the opinion that the Act can
and should contain a clear statement of that standard of behaviour owed
by directors in performing their complex and multifarious duties. The
standard should be plain enough to be acceptable and practised in the
board room and to be enforceable in the courts. It follows, of course,
that if the Committee's recommended legal standard is to develop into
an accepted professional code of ethics, it must appeal to the fair
minded director and be compatible with his role as a manager and
risk-taker.

7.2.3. The Committee therefore recommends that the Ontario law be
amended to include a provision substantially as follows:

"Every director of a company shall exercise the powers and dis-
charge the duties of his office honestly, in good faith and in the best
interests of the company, and in connection therewith shall exercise
that degree of care, diligence and skill which a reasonably prudent
director would exercise in comparable circumstances."

53

7.2.4. This legal standard of conduct and care upgrades the existing
standards as laid down in the decided cases81 and should satisfy the
objectives expressed in paragraph 7.2.2. However, to stop here would
accomplish little since the existing remedies available to the company
and its shareholders to enforce the recommended standard of behaviour
are technical, procedurally complex and, in the Committee's opinion,
inadequate to protect the interests of shareholders. We therefore con-
sider next the intimately related topic concerning the role of the director:
by whom and by what means shall this legal standard of conduct and
care, this director's code of ethics, be enforced?

80. Gower, supra, at 472.

81 See In Re Forest of Dean Coal Mining Compa?iy (1878) 10 Ch. D. 450 at 452;
Re Owen Sound Lumber Co. [1917] 38 O.L.R. 414 (C.A.) at 421 et seq.;
Northern Trust Co. v. Butchart (1917) 35 D.L.R. 169; In Re City Equitable
Fire Insurance Company Limited [1925] Ch. 407 (C.A.) at 629; Western
Ontario Gas Company Limited v. Aitkens et al [1946] O.R. 661.

.54

CHAPTER VII

Duties and Responsibilities of Directors

Section 3.

Enforcement of Duties and Responsibilities of Directors.

7.3.1. It has already been observed (paragraph 7.1.1) that under
the Ontario Act the management of the company is vested in the
directors. The directors are authorized and empowered to manage the
company without interference by the shareholders and, in the absence
of illegality, fraud or oppression of minority shareholders' interests, the
courts will not interfere with management. The rule of non-interference
in the internal affairs or disputes of companies is a deep-seated principle
of Anglo-Canadian corporation law. The rule is no more than a synonym
of the principle that since the internal affairs of a company are within
the jurisdiction of the directors or a majority of the shareholders, as the
case may be, they are outside the jurisdiction of the courts.

7.3.2. The rule of judicial non-interference in corporate affairs has
exerted a strong influence on the development of the rights, or lack of
rights, of the minority shareholder and it might therefore be useful
briefly to trace the development of the rule. Partnership disputes came
under the jurisdiction of the English Chancellor because of the superior
accounting machinery available in Chancery and because of the equit-
able nature of partnership interests. Thus, the Chancellor's original
jurisdiction in the case of companies was based upon the unincorporated
joint stock company which was organized by a trust created by a deed of
settlement. These unincorporated joint stock companies were, at law,
merely partnerships although in view of the very large number of
"members" holding shares in the "joint stock" they bore little resemb-
lance to the normal commercial partnership. This unincorporated joint
stock company fell to the jurisdiction of Chancery where partnership
rules were applied. The joint stock company, however, in which owner-
ship was clearly separated from management and control, created prob-
lems in the Chancery courts quite different from those arising from
ordinary partnerships. It was in 1843, at this very early stage in the
development of the principles of corporation law, that the celebrated
case of Foss v. Harbottle82 was decided. In that case, the minority share-
holders alleged that the company had a claim in damages against certain
of the directors by reason of the fraudulent acts of those directors. It
was held that the particular acts of the directors could be confirmed by
the majority of the shareholders and as the majority, in general meeting,
had not yet expressed its will, the court would not interfere. The
majority of shareholders was free to decide what was for the benefit of

55

the company. The plaintiffs, therefore, had no standing to sue in the
name of the company and were non-suited on the procedural point. The
judgment is clearly premised on the desirability of majority rule in the
direction of a company's affairs. The judgment is also said to stand for
the principle that the courts will not interfere in the internal disputes of
corporations. In addition to these substantive rules, the judgment holds
that in respect of a wrong done to the company the company is the
proper plaintiff in an action to seek redress. This procedural aspect of the
decision has had widespread ramifications which are discussed below.

7.3.3. It is a fundamental principle of common law that only a person
who has suffered a wrong may maintain an action in respect thereof.
This principle, in its most elementary sense, is an essential ingredient in
the so-called Rule in Foss v. Har bottle — a rule not peculiar to company
law but common to all civil litigation. When applied to company law,
this seemingly simple rule has given rise to a number of complex
problems as difficulties arise immediately one speaks of a wrong done
to a corporation, for the corporate personality is a legal fiction. A
corporation exists as a legal person only as a creature of statute but
behind the fiction exist the actual persons whose investment has given
the corporation the resources with which it carries on business.
While the corporation's personality may be a fiction, as an economic
organization it has a reality of its own. It follows, therefore, that a
wrong done to a company results in injury to it in a direct and real
sense. At the same time, injury has occurred, in an indirect sense, to the
shareholders of the company, as the value of their investment may
thereby be reduced. Therefore, one of the substantial problems arising
out of the Rule in Foss v. Har bottle is — who shall determine and insti-
gate what action or proceedings, if any, the company shall take to
redress a wrong done to it?

7.3.4. It is absolutely essential to an understanding of the Rule and
the difficulties which surround it to understand that under English law
the decision whether or not to sue in the corporate name belongs to the
general meeting of shareholders where the majority rule applies. The
principle of the supremacy of the majority is fundamental to corporation
law and is expressly stated in the Ontario Act.83 The principle is that
persons who acquire shares in a company are deemed to have agreed to
submit themselves to the decision of the majority at shareholders' meet-
ings in respect of all matters which are within the competence of such
meetings. The majority rule principle is significantly strengthened by
the further principle that a director is not disqualified in voting as a
shareholder on a resolution to approve a contract that he has entered
into with the company.84 In fact, in his capacity as a shareholder, he can
use his voting power to ratify a breach of his fiduciary duty. Since under
United Kingdom law the power to commence proceedings in the com-

56

pany's name is vested in the shareholders in general meeting, it ean readily
be seen how the "majority rule" led to the decision in Foss v. Harbottle.
If the company, as represented by a majority of the shareholders, con-
siders that a wrong has been done to the company, it can bring appro-
priate action. On the other hand, if the company, as so represented,
does not consider that it has been wronged, no proceedings need be
taken. The Rule in Foss v. Harbottle, based in large part on the principle
of the supremacy of the majority, is summarized in the following well
known passage from the judgment of the English Court of Appeal in
Edwards v. Hattiwelf*\

"The rule in Foss v. Harbottle, as I understand it, comes to no more
than this. First, the proper plaintiff in an action in respect of a
wrong alleged to be done to a company or association of persons is
prima facie the company or the association of persons itself.
Secondly, where the alleged wrong is a transaction which might be
made binding on the company or association and on all its members
by a simple majority of the members, no individual member of the
company is allowed to maintain an action in respect of that matter
for the simple reason that, if a mere majority of the members of the
company or association is in favour of what has been done, then
cadit quoestio. No wrong had been done to the company or associ-
ation and there is nothing in respect of which anyone can sue. If, on
the other hand, a simple majority of members of the company or
association is against what has been done, then there is no valid
reason why the company or association itself should not sue. In my
judgment, it is implicit in the rule that the matter relied on as con-
stituting the cause of action should be a cause of action properly
belonging to the general body of corporators or members of the
company or association as opposed to a cause of action which some
individual member can assert in his own right."

7.3.5. In marked contrast to the law in the United Kingdom, control
of the decision whereby a company commences proceedings to seek
redress for a wrong done to it resides, in Ontario law, in the board of
directors of the company. Putting this statement in another way, there
is no means whereby a majority of the shareholders in an Ontario com-
pany can authorize an action in the corporate name on behalf of the
company against the wishes of the board of directors. In the United
Kingdom, residual management power resides in a majority of the share-
holders in general meeting; in Ontario residual management power is
clearly conferred upon the board of directors as an incidence of the
directors' powers to manage the company's affairs. And nothing can
be more germane to the management of a company than the decision
to sue. or not to sue, on the company's behalf.

57

7.3.6. This significant distinction between the United Kingdom and
the Ontario law considerably confuses the application of the Rule in
Foss v. Harbottle and the so-called "exceptions" to the Rule, to which
reference is made below. If the will of an Ontario company is the will
of a majority of the directors rather than a majority of the shareholders,
the availability of the "exceptions" to the rule whereby an action can
be brought by a shareholder on behalf of the Ontario company to
remedy a wrong done to the company is clearly frustrated by the fact
that the wrong is likely to have been done by one or more of the directors
who themselves, as managers, determine whether or not the suit shall be
brought.

7.3.7. The so-called "exceptions" to the Rule in Foss v. Harbottle,
that is to say, situations that fall outside the Rule in the sense that the
courts have held that the majority of shareholders cannot confirm the
corporate act in question, are:

(a) an act which is illegal or ultra vires the company,

(b) an act which constitutes a fraud against the minority, the
wrongdoers themselves being in control of the company; and

(c) a resolution which requires a qualified or special majority vote
but which has been passed by a simple majority.

Acts which the majority cannot confirm are acts in respect of which the
restrictions of the Rule do not apply and in respect of which actions
can therefore be maintained by the minority.

7.3.8. Combining the principles of law referred to above and giving
effect to the Rule in Foss v. Harbottle, it follows that the directors of
an Ontario company are authorized and entitled to manage the com-
pany without interference by the shareholders and that, in the absence
of illegality, fraud or oppression of the minority, the courts will not
interfere with such management. In applying the Rule, the courts have
determined not to interfere on behalf of a minority shareholder in such
business decisions as: to lease or sell the company's undertaking; to
expand the company's business to other countries; to borrow money; to
make a voluntary assignment for the benefit of creditors; to amalgamate
with other companies; to enter into a contract to buy the property of
a majority shareholder. Similarly, the courts have refused to interfere
in such intra-corporate matters as the proper appointment and removal
of directors and employees, the quantum of remuneration of directors
and officers, the making of calls, paying dividends, reducing capital and
creating new classes of shares. In refusing to intervene in such cases,
Ontario courts have made statements to the effect that it is immaterial
that the decision of the majority is improvident, unnecessary for the

58

purpose of the business or even disadvantageous to a minority of the
shareholders. It is a further principle of corporation law that the vote
of each shareholder is a right of property which he may exercise "from
motives or promptings of what he considers his own individual interest"
even if the shareholder is activated by "interest entirely adverse to the
interest of the company as a whole". 8,; Unlike directors, who are fidu-
ciaries in their relationship to the company, shareholders of a company
voting at meetings of shareholders have no fiduciary obligations either
to the company or to other shareholders.

7.3.9. As a result of the Rule in Foss v. Ear bottle and the method by
which it has been applied by the courts in conjunction with the other
principles of company law noted above, the Ontario Court of Appeal
can make the following sanguine statement of the law:87

"He [the applicant for winding-up] is a minority shareholder and
must endure the unpleasantness incident to that situation. If he
chooses to risk his money by subscribing for shares, it is part of
his bargain that he will submit to the will of the majority. In the
absence of fraud or transactions ultra vires, the majority must govern,
and there should be no appeal to the Courts for redress."

The moot question is, when does "unpleasantness" become oppression?

7.3.10. In Section 2 of this Chapter the Committee recommended
an amendment to the Ontario Act which would constitute a legal stand-
ard of conduct and care required to be met by directors in the exercise
of the powers and the discharge of the duties of their office. This statu-
tory code would have the advantage of being known to directors as the
norm by which the statute requires them to perform their duties and
has the further and significant effect of upgrading the existing standards
laid down in the jurisprudence. However, as the Committee stated in
that Section, to stop there would accomplish little because of the in-
adequacy of the remedies presently available to enforce wrongs done
to companies by the directors and officers acting as management — an
inadequacy which this Section discloses to be largely the result of the
application of the old but well-entrenched Rule in Foss v. Harbottle.
The rights of minority shareholders must be strengthened and the op-
pressive procedural and substantive effects of the Rule in Foss v. Har-
bottle either mitigated or done away with in their entirety.

7.3.1 1. In 1945 the Cohen Committee in the United Kingdom recom-
mended that in order to strengthen the minority shareholders in resist-
ing oppression by the majority the court should have, in addition to the
power to order a winding-up, power to impose upon the parties to a
dispute whatever settlement the court considered just and equitable.
The Cohen Committee recommended that the court's discretion be un-

59

fettered "for it is impossible to lay down a general guide to the solution
to what are essentially individual cases". The result was Section 210 of
the United Kingdom Companies Act of 1948 which reads as follows:

"(1) Any member of a company who complains that the affairs of
the company are being conducted in a manner oppressive to some
part of the members (including himself) or, in a case falling within
subsection ( 3 ) of section one hundred and sixty-nine of this Act, the
Board of Trade, may make an application to the court by petition
for an order under this section.

(2) If on any such petition the court is of opinion —

(a) that the company's affairs are being conducted as afore-
said; and

(b) that to wind up the company would unfairly prejudice
that part of the members, but otherwise the facts would
justify the making of a winding-up order on the ground
that it was just and equitable that the company should be
wound up;

the court may, with a view to bringing to an end the matters com-
plained of, make such order as it thinks fit, whether for regulating
the conduct of the company's affairs in future, or for the purchase
of the shares of any members of the company by other members of
the company or by the company and, in the case of a purchase by
the company, for the reduction accordingly of the company's capital,
or otherwise."

7.3.12. It is not necessary in this Report to analyze the deficiencies
of Section 210 or to comment upon the observations made on the Sec-
tion in the Jenkins Report.88 It is sufficient for the Committee to state
:hat the very existence of Section 210 is a recognition by the Parlia-
ment of the United Kingdom that the rights of minority shareholders
were inadequate and that new and different remedies were therefore
required to redress wrongs done to the company or to minority share-
holders. In our opinion, Section 210 raises as many problems as it lays
to rest and, more importantly, is objectionable on the ground that it is
a complete dereliction of the established principle of judicial non-inter-
ference in the management of companies. The underlying philosophy
of Section 210 has an air of reservation and defeatism about it, as if
the legislature was unable to offer any solution to the plight of minority
shareholders other than abandoning the problems to the judiciary to be
dealt with ad hoc on the basis of determining, from case to case,
whether or not "the affairs of the company are being conducted in a
manner oppressive to some part" of the shareholders.

82. (1843) 2 Hare 461.

60

83. Section 79(1) (c); see also Noble et al. v. Cameron et al. [1955] O.R. 608
(C.A.).

84. Nortfi-Wcst Transportation Company Limited v. Beatty (1887) 12 App. Cas.
589 (P.C.).

85. [1950] 2 All E.R. 1064 at 1066 (C.A.).

86. Pender v. Lushington (1877) 6 Ch. D. 70 at 76 (C.A.).

ST. Re Jury Gold Mine Dev. Co. [1928] 4 D.L.R. 735 at 736 (C.A.).
88. Para. 199 et seq.

61

CHAPTER VII
Duties and Responsibilities of Directors

Section 4.

The Derivative Action.

7.4.1. The Committee considered the alternatives to a Section 210
approach (to the extent that Section 210 is available to relieve against
the Rule in Foss v. Harbottle) and concluded that the derivative action
is the most effective remedy to enforce the suggested statutory standard
of conduct and care to be imposed upon directors in the exercise of their
duties and responsibilities. Some definition of terms is useful. A personal
action is one which can be maintained by a shareholder to assert a right
which is personal to the shareholder. As individual shareholders' rights
are frequently collective in character, the personal action will often be a
representative form of action in which a shareholder or shareholders sue
on behalf of all shareholders having the same interest. In some cases the
defendant will be the company and in other cases the defendants will be
the directors or officers, whichever is said to have committed the wrong.
An example of such a cause of action would be a suit for dividends
declared by the directors and not paid by the company, or an action to
enforce a pre-emptive right. By way of contrast, a derivative action is
one where a minority shareholder or shareholders sue in representative
form claiming redress for a wrong done to the company. The wrong
having been done to the company, the company is the proper plaintiff
in the action but the action may be maintained by shareholders where
the "wrongdoers are in control" and fail to seek redress for the wrong
which has been done. The action is derivative because the plaintiff's
right to sue is secondary in nature and is accorded him on the ground
that the true plaintiff refuses or neglects to bring the action. In respect
of the derivative suit here under consideration, the company at all times
is the injured party and at all times is the true plaintiff even although
shareholders are permitted to maintain the action as nominal plaintiffs.
The wrongdoers will normally be directors and officers whose misfeas-
ance or inaction has resulted in damage to the company of which they
are the managers. The courts have insisted that the plaintiff in a de-
rivative action of this character sue in a representative capacity so that
all shareholders will be bound by the judgment, thus forestalling a mul-
tiplicity of actions. Because the company is the nominal defendant, but
true plaintiff, any decision in the case becomes res judicata so far as
the company is concerned, thus precluding it from bringing subsequent
action on the same cause.

7.4.2. As is well known, derivative actions in company law matters
62

are common in the various United States and are the subject of statutory
attention in a number of important American jurisdictions. In many or
most of the United States, the rules of ethics of State and local bar
associations apparently permit lawyers to act in civil litigation on a
"contingency fee" basis. This has led to the so-called "strike bar" in the
field of derivative actions against corporations. Further, plaintiffs fre-
quently threaten to bring derivative actions or in fact commence them
solely for the purpose of provoking secret settlements with the com-
panies even in circumstances where the action is not well founded. In
the result, the derivative action has achieved a notable degree of un-
popularity in Canada and elsewhere. There is no doubt that this un-
popularity is merited in many instances as the actions which have been
commenced are frequently of an harrassing nature, brought in the hope
that a judgment will carry with it a substantial award for lawyers' fees
and expenses as is expressly permitted by the statutes of many States.
The Committee is satisfied, however, that the undesirable characteristics
of the derivative action can be avoided and that the remedy is one
which can and should be adapted to Ontario law and practice to serve
as an effective procedure whereby corporate wrongs can be put right.

7.4.3. The Committee therefore recommends that the Ontario Act
be amended by adding a substantive provision to the effect that a
shareholder of a company may maintain an action in a representative
capacity for himself and all other shareholders of the company suing
for and on behalf of the company to enforce any rights, duties or obli-
gations owed to the company which could be enforced by the com-
pany itself or to obtain damages for any breach thereof. The Act
should be further amended to set out the following procedural aspects
of the substantive remedy. The shareholder should be required to
sue in a representative capacity, it being clear that the judgment or
award is to be in favour of and for the benefit of the company. As con-
ditions precedent to the right to bring the action, the plaintiff should be
required to establish that he was a shareholder of record at the time
the wrong was alleged to have occurred and that he has made reason-
able efforts to cause the company to commence or maintain the action
on its own behalf. Further, the Act should provide that the intended
plaintiff must make application ex parte to a judge of the High Court of
Ontario designated by the Chief Justice of the High Court for an order
permitting the plaintiff to commence the action. In practice, it can
be assumed that the application will be supported by affidavit material
which would include the draft writ of summons and statement of claim.
The shareholder should be required to establish to the court that he is
acting bona fide and that it is prima facie in the interests of the com-
pany or its shareholders that the action be brought. If, under proper
circumstances, the court makes an order permitting the intended plaintiff

63

to commence the action, no order shall be made as to security for
costs although the judge would be free to make the order on such other
terms and conditions as he sees fit. Keeping in mind, however, that the
true plaintiff is the company, the nominal plaintiff should be permitted,
while the action is pending, to obtain from a judge or the Master an
order against the company for the payment of interim costs which would
include, among other things, specified solicitor's and counsel fees. The
plaintiff, of course, will be accountable to the company in respect of any
such interim costs and, as is the case with any other plaintiff in our
jurisdiction, runs the risk of the action being dismissed with costs against
the plaintiff. In the opinion of the Committee, The Judicature Act
would permit the judge at the trial to include in his judgment or order
a provision that costs will be payable to the plaintiff as between a
solicitor and his own client. However, if there is any doubt as to
the correctness of this opinion or if there is concern that judges will
not exercise their discretion to award such costs, the Act should
specifically provide that the judgment rendered by the court can include
an award to the plaintiff for his reasonable costs, including counsel and
solicitor's fees and disbursements, incurred in maintaining the action.
The Act should contain a provision comparable to that in the New York
Business Corporation Law and in the law of many of the United States to
the effect that any derivative action so brought shall not be discontinued,
compromised or settled without the approval of the court, in the hope
that "secret settlements" shall not be made.89

89. See also Rule 23(c) of the United States Federal Rules of Civil Procedure.

64

CHAPTER VII

Duties and Responsibilities of Directors

Section 5.

Transactions Involving Directors.

7.5.1. Section 70 of the Ontario Act, which corresponds to almost
identical provisions in the United Kingdom Companies Act and the Acts
of the other Provinces, sets up a procedure whereby a director can
obtain immunity from accountability to the company in respect of con-
tracts between himself and the company if he declares his interest in
the contract and does not vote in respect thereof at a meeting of
directors at which it is considered or, alternatively, if the contract is
confirmed by a majority of the votes cast at a general meeting of the
shareholders duly called for that purpose. In addition, if either alterna-
tive is adopted, the contract is not voidable only by reason of the direc-
tor's interest in the contract. While the Section does not expressly pur-
port to be concerned with the substantive rights as between the director
and the company or its shareholders in respect of any fraudulent or
improper transactions, doubts can arise in cases in which the section is
invoked as to whether or not the protection of the procedure therein
outlined confers immunity from accountability whether or not the tran-
saction constitutes a breach of the director's fudiciary relationship.
Further, the Section applies to contracts only and, in the opinion of the
Committee, should be extended to apply to any transaction to which the
company is or is to be a party. The provision is seriously defective in
the further respect that it does not require the director, in declaring his
interest in the contract or proposed contract, to describe to the dis-
interested quorum of his fellow directors the nature and extent of that
interest, nor does the statute require the disclosure of the nature and
extent of the director's interest in the notice calling any general meet-
ing of shareholders to confirm the contract, although prudence would
dictate that the common law rules in this respect would apply.90

7.5.2. As a corollary to the recommendations in the preceding Sec-
tion of this Chapter, the Committee is of the opinion that Section 70
should be broadened and strengthened in several respects: first, the Sec-
tion should be extended to include all material transactions between a
director and the company, secondly, the immunity from accountability
of a director who invokes the procedures authorized by the Section
should be available only if all details of his interest in the transaction are
fully made known to his fellow directors or shareholders and, thirdly,

65

the immunity from accountability should be available only to an honest
director dealing in good faith with the company. Accordingly, the Com-
mittee recommends that Section 70 be repealed and that a new provision
substantially as follows be substituted therefor:

( 1 ) Every director of a company who has, directly or indirectly, any
interest in any contract or transaction to which the company is or
is to be a party (other than a contract or transaction limited solely
to the remuneration of such director as a director, officer or em-
ployee) shall declare his interest in such contract or transaction at
a meeting of the directors of the company and shall at that time dis-
close the nature and extent of such interest including, as to any con-
tract or transaction involving the purchase and sale of assets by or
to the company or any subsidiary, the cost of the assets to the pur-
chaser and the cost thereof to the seller if acquired by the seller
within 5 years prior to the date of the contract or transaction.

(2) Subsection 1 does not require the disclosure of any interest
in any contract or transaction unless the interest and the contract
or transaction are both material.

(3) In the case of a proposed contract or transaction, the declara-
tion required by this section shall be made at the meeting of the
directors at which the question of entering into the contract or tran-
saction is first considered or, if the director is not at the date of
such meeting interested in the proposed contract or transaction, at
the next meeting of the directors held after he becomes so interested
and, in a case where the director becomes interested in a contract
or transaction after it is entered into, the declaration shall be made
at the first meeting of the directors held after he becomes so in-
terested.

(4) If a director has made a declaration and disclosure of his in-
terest in a contract or transaction in compliance with this section and
has not voted in respect of the contract or transaction at the meeting
of the directors of the company, the director, if he is acting in good
faith, is not by reason only of his holding the office of director
accountable to the company or to its shareholders for any profit or
gain realized from the contract or transaction and the contract or
transaction, if it is in the best interests of the company, is not void-
able by reason only of the director's interest therein.

(5) Notwithstanding anything in this section, a director, if he is
acting in good faith, is not accountable to the company or to
its shareholders for any profit or gain realized from any such con-
tract or transaction by reason only of his holding the office of
director and the contract or transaction, if it is in the best interests

66

of the company, is not by reason only of the director's interest therein
voidable if the contract or transaction is confirmed or approved by
a majority of the votes cast at a general meeting of the shareholders
duly called for that purpose if the nature and extent of the director's
interest in the contract or transaction is declared and disclosed in
reasonable detail in the notice calling the meeting or in the informa-
tion circular required by section 75c.

7.5.3. The amended Section 70 will not disenfranchise the interested
director; he will be free to vote as a shareholder at the general meeting
at which the contract or transaction is to be considered. This result is
consistent with the basic purpose of the proposed Section, namely, that
to be relieved from the strict requirement of accountability owed as a
fiduciary, the director must fully disclose the nature and extent of his
interest in any material contract or transaction to be entered into with
the company. The Section, however, is not intended to offer to the dis-
honest director a means whereby an otherwise improper transaction can
be put beyond inquiry or attack by the shareholders.

90. Canada Safeway Ltd. v. Thompson et al. [1951] 3 D.L.R. 295 at 321; Earle v.
Burland (1900) 27 O.A.R. 540 at 561 (C.A.), varied on other grounds [1902]
A.C. 83.

67

CHAPTER VII
Duties and Responsibilities of Directors

Section 6.

Indemnification of Directors.

7.6.1. Section 72 of the Ontario Act provides that a director of a
company may "with the consent of the company given at any meeting
of the shareholders" from time to time and at all times be indemnified
and saved harmless out of the funds of the company from and against
all costs, charges and expenses whatsoever that he sustains or incurs in
or about any action, suit or proceeding brought against him in respect
of any act done by him in or about the execution of the duties of his
office or which he sustains in relation to the affairs of the company
except, in the latter case, such costs or expenses as are occasioned by
his own wilful neglect or default. By-laws providing for such indemni-
fication of directors and officers (although the Section does not mention
officers) are almost invariably passed during the organization of the
company when the shareholders are usually the nominee first directors
of the company. In view of the recommendations made in the earlier
Sections of this Chapter, it is obvious that amendments to Section 72
will be required.

7.6.2. The Committee therefore recommends that the Act be
amended to provide that a director shall not be indemnified in respect
of costs, charges and expenses incurred in any action or proceeding as
a result of which he is adjudged to be in breach of any duty or respon-
sibility imposed under the provisions of the Act or by any other rule
of law or equity. For greater certainty, on the other hand, we feel
that the Act should provide that in a case where a director has achieved
complete or substantial success in an action brought against him in his
capacity as director, he should be entitled to indemnification by the
company.

68

CHAPTER VIII
Rights of Shareholders

Section 1.

Enforcement of Individual Shareholder's Rights.

8.1.1. Earlier in this Report reference has been made to individual
shareholder's rights and some examples of such rights were enumerated. 91
This class of rights is to be distinguished from what Palmer92 would
call corporate shareholder rights, that is, rights which the shareholder
has agreed to submit to the lawfully expressed will of the majority. In
respect of those rights the rule of majority, to which we have earlier
referred, applies.03 The individual shareholder faces no unusual impedi-
ment in cases where he wishes to enforce his individual shareholder's
rights; here there are no substantive or procedural rules comparable to
the Rule in Foss v. Harbotth where "corporate shareholder rights" are
involved. The individual shareholder has access to the courts to seek
equitable or other relief for the enforcement of personal rights owed to
the plaintiff as a shareholder. He may maintain an action to enforce any
of the various individual rights conferred upon him by statute or common
law. Thus, for example, if a shareholder is prevented from exercising the
vote attached to the shares owned by him, an individual shareholder's
right is infringed and the shareholder may sue for the enforcement of that
right.94 The individual shareholder's rights are, of course, frequently
identical with the rights of all other shareholders of the same class. This
entitles the plaintiff to proceed in a representative capacity if he elects
to do so. This is the usual and desirable practice for it ensures that any
judgment is binding on all whom the plaintiff represents, thus preclud-
ing the possibility of a multiplicity of actions.

8.1.2. There is in connection with the enforcement of the rights of
the individual shareholder a particular area of obscurity which, in the
Committee's opinion, should be clarified. The United Kingdom Com-
panies Act and the Companies Acts of the various Provinces of Canada
which have adopted the registration system of incorporation provide that
the memorandum and articles of association, that is, the constating
documents which correspond to the letters patent of incorporation and
by-laws, bind the company and its shareholders to the same extent as
if they respectively had been signed and sealed by each shareholder and
the company and contained covenants on the part of each to observe all
the provisions of the memorandum and articles. Many reported decisions
based on this statutory provision have held that each individual share-
holder may insist upon compliance with the provisions in the memoran-
dum and articles and may sue to enforce such compliance. The legal

69

question in each case is one concerning the company's constitution not
its management.

8.1.3. There is no corresponding provision in the Ontario Act and
it is not clear whether or not a shareholder of an Ontario company
may sue to enforce compliance by the company with its letters patent,
supplementary letters patent or by-laws. The substrata of an Ontario
company is not a contract among the incorporators or shareholders but
the grant of a charter from the Crown pursuant to a general corporation
statute. In view of the Committee's recommendations in Chapter I Sec-
tion 1 as to the method of incorporation to be adopted for Ontario
companies, it would therefore seem desirable that the Ontario Act should
specifically provide that individual shareholders may sue for the en-
forcement of individual rights including compliance with the provisions
of the company's charter and by-laws. Accordingly, the Committee
recommends an appropriate amendment by way of a new subsection to
Section 341 of the Act to effect the recommended change.

91. Chapter VI, Section 1.

92. Palmer, supra at p. 496.

93. Chapter VII, Section 3.

94. Pender v. Lushing ton (1877) 6 Ch. D. 70 (C.A.) where the court stated at
p. 81 : that the shareholder is entitled to have his vote recorded and that such
was "... an individual right in respect of which he has a right to sue. That
has nothing to do with the question like that raised in Foss v. Harbottle and
that line of cases".

70

CHAPTER VIII
Rights of Shareholders

Section 2.

The Right to Cumulative Voting.

8.2.1. In view of the fact that management of an Ontario company
is firmly in the hands of its board of directors, probably the most im-
portant individual shareholder's right accruing to the shareholder of an
Ontario company is his right to elect the board of directors. Section 64
of the Ontario Act states that where the charter or by-laws of a com-
pany so provides, every shareholder entitled to vote at an election of
directors has the right to cast a number of votes equal to the number of
votes attached to the shares held by him multiplied by the number of
directors to be elected and that he may cast all such votes in favour of
one candidate or distribute them among the candidates in such manner
as he sees fit. This system of voting is known as "cumulative voting", a
right which is not given shareholders in the United Kingdom Companies
Act or by common law although it has gained widespread acceptance,
in various forms, in the United States.

8.2.2. The 1952 Select Committee seemed to recognize the merits of
the cumulative voting system but recommended deferment of enacting
provisions which would make cumulative voting mandatory until an
opportunity had been given to canvass the views of other Canadian
jurisdictions on this innovation. That Committee accordingly recom-
mended the enactment of Section 64 which put cumulative voting on a
permissive rather than on a mandatory basis. The question which this
Committee is therefore required to resolve is whether or not, on grounds
of public policy, the cumulative voting system should be mandatory. So
long as the system is permissive only, experience has shown that it is
highly unlikely that provision will be made for cumulative voting either
in the charter or by-laws of a company.

8.2.3. Normally, each voting share carries the right of one vote per
share. As a result, shareholders who collectively hold in the aggregate
more than 50% of the votes can elect all of the directors of the com-
pany. For example, in the case of a company with 10,000 common
shares outstanding carrying one vote per share, at a meeting of share-
holders called to elect, say, 9 directors, those shareholders who hold
shares in the aggregate entitling them to 5,100 votes would, by casting
such votes, elect 9 directors of their choice. An opposition group of
shareholders with shares aggregating 4,900 votes could muster only
4,900 votes for each candidate for election and, of course, could there-

71

fore elect none. Under the cumulative voting system, by contrast, the
shareholders' group with 5,100 shares would be entitled to a total of
45,900 votes, i.e. 5,100 multiplied by 9 (the number of directors) and
the shareholders' group with 4,900 shares would be entitled to 44,100
votes, i.e. 4,900 x 9. By distributing its 44,100 votes among only 4
candidates for election as directors, the minority shareholder group
could give each of the 4 candidates 11,025 votes. No matter how the
majority distributes the votes available to it, it can elect no more than
5 directors since it cannot give its sixth man as many as 11,025 votes.

8.2.4. Cumulative voting is unknown in the United Kingdom and
the subject was not even dealt with by the Jenkins Committee. Cumula-
tive voting is not provided for in any of the other Provinces except
Manitoba which adopted permissive but not mandatory cumulative voting
in the Companies Act passed in 1964. So far as the Committee is able
to ascertain, cumulative voting for corporations originated at the Illinois
Constitutional Convention in 1870 and the theory supporting the system
was developed by analogy to democratic political organizations designed
to uphold the position of minority representation in government. This
origin of the cumulative voting system is, in itself, a factor which should
be closely scrutinized since there are obvious differences in principle
between incorporated business organizations and governmental or law
making bodies of any kind. It should also be noted that at the time
cumulative voting was introduced in Illinois it "was a very wild and
ruthless period of development in American industrial history where
there were few limitations on what corporate managers did . . . since
then we have developed many means of control".95 Cumulative voting
is provided for either in the general corporation statutes or State con-
stitutions of all of the United States except four. In over one-half of the
States cumulative voting is mandatory rather than permissive. The trend
in the United States, however, appears to be away from mandatory
cumulative voting. Of the 1 1 States that have adopted cumulative voting
since 1950, all but one state have chosen to put it on an optional basis.
In addition, the Model Business Corporation Act was amended in 1955
to put cumulative voting, in effect, on an optional basis whereas prior
to that time the Model Act provided for mandatory cumulative voting.

8.2.5. Impressive arguments can be made for and against mandatory
cumulative voting. Of the arguments in favour of the system, the most
persuasive is that based on the "democratic necessity" or "fairness" con-
cept, that is, that the cumulative voting system is equitable and con-
sistent with acceptable democratic principles and therefore should be
compulsory. However, this argument depends upon the aptness of the
analogy drawn between the incorporated business organization and the
political body, an analogy which is inherently defective. The most per-

72

suasive argument against cumulative voting is that it encourages the
election of directors representing particular interest groups who, by
virtue of their partisan role, encourage disharmony in the management
of the affairs of the company. An American author who made a compre-
hensive study of cumulative voting established that cumulative voting,
in the States in which it was available, was rarely used by shareholders.96
The author attributed this disinterest to the fact that the typical share-
holder, at least in publicly-held companies, has long since come to regard
himself as an investor rather than a proprietor and is apparently content
to leave management in the hands of the professional managers.

8.2.6. In view of the uncertainties which surround the true value of
the cumulative voting system, the Committee does not recommend that
cumulative voting be made mandatory for Ontario companies. The many
recommended legislative changes outlined in this Report will significantly
strengthen the position of the minority shareholder in Ontario and until
those recommendations have been implemented and put into practice,
it is difficult to know whether or not mandatory cumulative voting
would be a necessary or desirable feature of Ontario law.

95. Should Cumulative Voting for Directors be Mandatory? A Debate, (1955) 11
The Business Lawyer 9.

96. Williams, Cumulative Voting for Directors.

73

CHAPTER VIII

Rights of Shareholders

Section 3.

The Right to Remove Directors.

8.3.1. Section 66 of the Ontario Act states that the letters patent,
supplementary letters patent or by-laws may provide, in the case of
companies which do not make provision for cumulative voting, that the
shareholders may by a resolution passed by at least % of the votes cast
at a general meeting, of which notice specifying the intention to pass
such resolution has been given, remove any director before the expira-
tion of his term of office. The question to be determined by the Com-
mittee is whether or not the Act should give the shareholders the right
to remove directors before the expiration of their term of office rather
than conferring upon the company, as is the case under Section 66, the
right to provide for removal of directors by appropriate charter or by-
law provision. If the right should be conferred on the shareholders, the
supplementary question arises as to whether or not removal of a director
should be effected by a majority of the votes cast at the meeting or by
some number greater than a majority as is presently the case in Sec-
tion 66.

8.3.2. Prior to the introduction of Section 66 in 1954, removal of
directors before the expiration of their term of office was not thought
possible as a matter of law. While the legal question was not free from
doubt, the most widely held view is that expressed in a leading Canadian
text to the effect that removal of directors before the expiration of their
term of office should be authorized by appropriate enabling provisions
in the charter of the company.97 This view prevailed principally as a
result of an English case98 which held that directors could not be re-
moved from office before the expiry of their term unless appropriate
provision was contained in the articles, this conclusion being supported
by the "contract theory" which is the legal foundation for a company
incorporated under United Kingdom law.99 An Ontario court reached a
similar conclusion without referring to the English cases or, indeed, with-
out giving any other substantial reason for the result.100 Whether or not
the English cases are rightly decided, the Ontario decision seems to the
Committee to be at variance with the common law rule recognized as
early as 1728 that shareholders, by majority vote, have an inherent
right to remove a director for misconduct in office, which inherent right
was recognized by Lord Mansfield in 1758.101

74

8.3.3. Whatever the historical background may be, under the existing
provisions of the Ontario Act directors cannot be removed during their
term of office unless appropriate provisions are contained in the com-
pany's charter or by-laws. As charter or by-law changes must, under the
Ontario Act, be initiated by the directors, there is presently no means
by which the shareholders could initiate the necessary corporate steps
to amend the company's charter or by-laws. This result is aggravated by
Section 300 of the Act which permits the election of directors in rotation
and enables directors to be elected for terms up to five years. The Com-
panies Acts of British Columbia and Saskatchewan contain provisions
to the effect that, in the absence of any contrary provision in the memor-
andum or articles, a public company may remove directors by special
resolution (being one passed by 3A of the votes cast at the meeting) pro-
vided that not less than 3A of the issued shares of the company are
represented at the meeting in person or by proxy. The Manitoba Com-
panies Act is similar to the Ontario Act. In all other provinces and
under the Canada Corporations Act, there are no provisions for the
removal of directors during their term, so that the unclear case law
applies.

8.3.4. The Committee has already observed102 that probably the most
important individual right accruing to the shareholder of an Ontario com-
pany is his right to elect the board of directors. There seems to be no
logical reason why the corollary right should not exist; that is, there
appears no reason why the Act should not authorize the shareholders
to remove directors during their term of office. Nor is there any per-
suasive reason why removal should require a vote in excess of the
majority of the votes cast at the meeting duly called for the purpose.
The right to remove directors at the instance of shareholders exists in
the United Kingdom Companies Act and in the corporation statutes of
an increasing number of the United States. The Committee therefore
recommends that Section 66 be amended to provide that the shareholders
may, by resolution passed by at least a majority of the votes cast at a
general meeting called for the purpose, remove any director before the
expiration of his term of office but, if the directors have been elected
by cumulative voting, no director shall be removed where the votes cast
against the resolution for his removal would, if cumulatively voted at an
election of the full board of directors, be sufficient to elect one or more
directors. If the directors or officers of the company refuse to call a
general meeting of shareholders for the purpose of removing a director
or directors when asked to do so, the shareholders may then have re-
course to the procedure in Section 308 of the Act which permits share-
holders to requisition a general meeting of shareholders. Reference is
made to Section 4 of this Chapter in which the Committee recommends

75

significant amendments to Section 308 intended to permit requisitioned
meetings to be called at the instance of shareholders much more readily.

97. Fraser & Stewart, supra at 576.

98. Imperial Hydropathic Hotel Company, Blackpool v. Hampson, (1882) 20
Ch. D. 1.

99. See Chapter VIII, paragraph 8.1.2.

100. London Finance Corp. Ltd. v. Banking Service Corp. [1925] 1 D.L.R. 319.

101. Lord Brace's Case, (1728) 2 Strange 819; Rex v. Richardson (1758) 1 Burr.
515.

102. Chapter VIII, paragraph 8.2.1.

76

CHAPTER VIII

Rights of Shareholders

Section 4.

The Right to Requisition Meetings of Shareholders.

8.4.1. Section 308 of the Act provides that shareholders of a com-
pany holding not less than 1/1 0th of the issued voting shares of the
company may request the directors to call a general meeting of the
shareholders "... for any purpose connected with the affairs of the
corporation that is not inconsistent with this Act". It would seem that
this statutory right is seldom resorted to. The Committee has concluded
that the procedural right conferred by the Section has two fundamental
deficiencies, only one of which can be satisfactorily remedied. The first
is that the requisitioned meeting can be called only at the instance of
shareholders holding not less than l/10th of the issued voting shares, a
restriction which prevents the exercise of the right to requisition in many
instances. The second deficiency is that the shareholders at a general
meeting have the legal authority to initiate only a very limited range of
corporate acts. At an annual meeting the shareholders have the right to
elect directors and appoint auditors; at a general meeting the shareholders
have the right to authorize the surrender of the charter of the company
under Section 327, to pass a resolution requiring the company to be
wound up voluntarily under Section 243, to pass a resolution to remove
the auditor before the expiration of his term of office and, at an annual
or general meeting, to pass a resolution under Section 321 appointing
an inspector to investigate the affairs and management of the company.
If the recommendation in Section 3 of this Chapter is implemented, the
shareholders will have the further right to pass a resolution at a general
meeting to remove directors during their term of office.

8.4.2. The Committee has stated earlier in this Report, in several
contexts, that under the Ontario Act the management of the company
is vested in the board of directors. The residual management authority
is with the directors and not with the shareholders. As a consequence,
the shareholders' right conferred by Section 308 is to a certain extent
illusory since only a limited range of corporate acts can be initiated at
a meeting of shareholders however called, by requisition or otherwise.
The "purposes) connected with the affairs of the corporation" in respect
of which a requisitioned meeting can be held are, accordingly, confined
to a relatively few corporate acts, although admittedly of a fundamental
character.

8.4.3. The condition precedent to invoking Section 308, namely, that
only shareholders holding not less than 1/1 0th of the issued voting

77

shares of the company may do so, is obviously arbitrary and artificial.
In order that the relatively limited effect of the Section may be made
available more readily, the Committee recommends that the statute be
amended to provide that the Section may be invoked either by share-
holders holding not less than l/20th of the issued voting shares of the
company or by any shareholder on application to a judge of the High
Court designated by the Chief Justice of the High Court, on notice
to the company, who may make an order requiring the company to call
a general meeting of shareholders "for any purpose connected with the
affairs of the corporation that is not inconsistent with" the Act, on such
terms as to security for costs or otherwise as the court thinks fit. The
applicant should be required to satisfy the court that the application is
bona fide and that it is prima facie in the interests of the company or its
shareholders that the meeting be requisitioned.

78

CHAPTER VIII

Rights of Shareholders

Section 5.

The Right to Investigate the Affairs of the Company.

8.5.1. In Section 3 of Chapter VII of this Report, Section 210 of
the United Kingdom Companies Act was quoted in part. Section 210
permits any shareholder of a company who complains that the affairs
of the company are being conducted "in a manner oppressive to some
part of the members (including himself)" to apply to the court for an
order "... whether for regulating the conduct for the company's affairs
in the future, or for the purchase of the shares of any member of the
company ... or otherwise" as the court thinks fit. Referring in the con-
text of Chapter VII to the right of shareholders to redress wrongs done
to the company, the Committee dissented from the philosophical basis
of Section 210. That Section, phrased as it is in broad terms, also is
essentially relevant, however, to the individual shareholder rights with
which this Chapter is concerned.

8.5.2. British Columbia is the only Canadian jurisdiction to adopt
Section 210 of the United Kingdom Companies Act. The concept, how-
ever, has many proponents who regard it as an omnibus solution to the
many difficulties (real or imaginary) which can confront the individual
shareholder. As the Committee stated in Chapter VII however, Section
210 has an aura of reservation and defeatism about it in that it abandons
the solution of the problems of shareholders' rights to the unfettered
discretion of the judiciary. There are, in any event, some serious de-
ficiencies inherent in Section 210 as the Jenkins Report recognized.108
The Committee is of the opinion that the fundamental objection to this
approach to the solution of shareholder grievances is its complete
abandonment of the functional principle of judicial non-interference in
the management of companies.

8.5.3. A right which is approximate but by no means comparable to
Section 210 is found in Section 321 of the Ontario Act which provides
that shareholders of a company holding shares (whether or not voting
shares) representing not less than 1/1 0th of the issued capital of the com-
pany may apply to the court for the appointment of an inspector to "in-
vestigate the affairs and management of the corporation" or to "appoint
a person to audit its books". A comparable provision exists in the general
corporation statutes of all Provinces of Canada except Prince Edward
Island. There is very little evidence to establish the extent to which
Section 321 or its counterpart in other Provinces has been invoked. The
publicity attendant upon the appointment of an inspector could no

79

doubt have serious adverse ramifications to a commercial enterprise.
However, adequate protection to companies is contained in the section
in that the applicants are required, in effect, to make out a prima facie
case to the court. The court can also require the applicants to give
security for costs and may prescribe the manner and the extent to which
the investigation or audit is to be conducted. The Committee is of the
opinion that the underlying principle of Section 321 is equitable and in
the interests of shareholders. It should be noted, however, that Section
321 only authorizes an investigation and is not a remedy to right wrongs
done to the company or to shareholders. Because the provision is in-
vestigatory in nature, one court has said104:

"The section provides an extraordinary remedy applicable only in
certain circumstances. It is not intended ... to provide for a sum-
mary investigation into alleged wrongdoing by officers or share-
holders of a company in relation to the company's affairs when the
information relating to the alleged wrongdoing has been disclosed
by the company to its shareholders . . . Where disclosure has been
made these are not matters to be enquired into under [the investi-
gation section]"

8.5.4. As is the case with the procedure contemplated by Section 308
of the Act referred to above, the arbitrary condition precedent that the
application under Section 321 must be brought by shareholders holding
not less than 1/1 0th of the issued capital does not recommend itself to
the Committee. Since the inspector is appointed or the audit is ordered, as
the case may be, only by order of the court, the Committee recommends
that the Section be amended to provide that the application may be
brought by any shareholder or by the Provincial Secretary, thus sub-
stantially broadening the availability of the remedy as a statutory means
of investigating alleged corporate wrongs. It is further recommended,
consistent with other Sections of this Report, that the application shall
be to a judge of the High Court designated by the Chief Justice of the
High Court. In order to offset the effect of unprogressive jurisprudence,
as illustrated by the passage quoted in paragraph 8.5.3, Section 321
should be further amended to ensure that an order may be made under
the Section whether or not there has been, in the language of the cases,
"disclosure of the matters to be enquired into".

8.5.5. The 1952 Select Committee recommended the adoption of what
is now Section 341 of the Ontario Act which reads as follows:

"Where a shareholder or member or creditor of a corporation
is aggrieved by the failure of the corporation or a director, officer or
employee of the corporation to perform any duty imposed upon it

80

or him by this Act, the shareholder, member or creditor, notwith-
standing the imposition of any penalty and in addition to any other
rights that he may have, may apply to the court for an order direct-
ing the corporation, director, officer or employee, as the case may
be, to perform such duty, and upon such application the court may
make such order or such other order as the court thinks fit."

In essence, this provision merely enables a shareholder or a creditor
to apply to the court for an order directing the company or any of its
directors, officers or employees, as the case may be, to perform any
statutory duty imposed upon it or him by the Act. In view of its limited
scope it is not a counterpart of Section 210. It is in fact arguable that the
provision is only declaratory of the common law. However that may be,
the Committee would not recommend its repeal as there could be cir-
cumstances wherein Section 341 might enable a shareholder to make
an appropriate application to the court without being required to wait
until a statutory duty had been breached and a cause of action thereby
possibly accruing to the shareholder, either as an individual or a collec-
tive shareholder's right.

8.5.6. Sections 164 and 165 of the United Kingdom Act authorize
the Board of Trade to appoint inspectors to investigate the affairs of
the company and to report thereon in such manner as the Board directs.
This is in keeping with the philosophy of the English Act which gives to
the Board of Trade, a department of the government, substantial jurisdic-
tion over the affairs of United Kingdom companies. For the reasons re-
ferred to when commenting on Section 210, the Committee does not
recommend that the Provincial Secretary in Ontario be given investi-
gatory powers comparable to those given to the Board of Trade in
Sections 164 and 165. It is confidently anticipated that the several recom-
mendations in this Report concerning the role of the director and the
means whereby shareholders' rights may be enforced will render un-
necessary and inappropriate statutory concepts such as are embodied in
Sections 164, 165 and 210 of the United Kingdom Act. By the recom-
mendation in paragraph 8.5.4 above the Provincial Secretary will be
authorized on his own volition to apply to the court for an order ap-
pointing an inspector or ordering an audit. This should prove to be a
useful means of guarding the public interest in special cases. Section 4
of The Corporations Information Act presently authorizes the Provin-
cial Secretary to require a corporation at any time to make a return
"upon any subject connected with its affairs". It would seem probable that
instead of asking for a return under Section 4 the Provincial Secretary
will have recourse to the broader investigatory scope of the amended
Section 321. Section 4, however, could continue to be a useful means
of investigating the affairs of a company in certain cases. The informa-

81

tion return under Section 4 can be demanded by the Provincial Secre-
tary without the notoriety which surrounds an order made by the court
under Section 321. The Committee recommends, however, that the
penalty provision in Section 4 be made substantially more stringent so
as to ensure compliance by companies with orders made by the Pro-
vincial Secretary thereunder.

8.5.7. The recent case of Re H. Flagal (Holdings) Ltd.105 indicated
that the Ontario courts feel that Section 321 does not authorize the
appointment of an inspector to investigate the affairs of a wholly-owned
subsidiary, on the application, under the Section, of a shareholder of the
parent company. The Committee accordingly recommends that Section
321 be amended so as to permit the appointment of an inspector to in-
vestigate the affairs of a company or any affiliate of the company (as
such term is presently defined in Section 90 of the Act). The Committee
also recommends that the Section be amended to ensure that the in-
spector has the right to examine on oath and to require the production of
documents from the bankers and auditors of the company in question.

8.5.8. In the Committee's opinion, the provisions of Section 326
(added to the Act in 1962-63) authorizing the Provincial Secretary
to conduct an enquiry for the purpose of determining whether or not
there is sufficient cause for the Lieutenant Governor to order the can-
cellation of the letters patent or supplementary letters patent issued to
a company or declaring it to be dissolved or terminated is inconsistent
with the concept and scope of Section 321(1) of the Act and the recom-
mended amendments thereto referred to in paragraphs 8.5.4 and 8.5.7
of this Section. It is appreciated that the 1962-63 amendments were
added for a particular purpose. However, the Committee feels that the
recommendations in this Section are more than an adequate substitute
for the rights conferred upon the Provincial Secretary under Section 326
and therefore recommends that that Section be amended so that the
1962-63 amendments should not be applicable to corporations with
share capital.

103. Para. 200 et seq.

104. Re The Companies Act, Re Automatic Phone Recorder Company Limited
(1955) 15 W.W.R. 666.

105. (1965) 52 D.L.R. (2d) 385.

82

CHAPTER IX

The Necessity of Meetings
Section 1.
Meetings of Directors.

9.1.1. Section 296 of the Act to which the Committee has made
reference on several earlier occasions in this Report provides that the
affairs of every corporation shall be managed by a board of directors.
The Section expressly states that no business of a corporation shall be
transacted by its directors except at a meeting of directors at which a
quorum of the board is present. The Section provides that the board
of directors shall consist of a fixed number not fewer than three and
Section 301 of the Act stipulates that unless the charter or a special
resolution otherwise provides, a majority of the directors constitutes a
quorum, but in no case can a quorum be less than 2/5 of the number
of directors.

9.1.2. At common law it was clear that directors could act and exer-
cise their authority only at regularly constituted meetings106; nor, at
common law, could a director delegate his duties or assign his powers.
The logical foundation for the common law rule is well expressed in an
oft-quoted American decision:107

"The personal presence of each director at a meeting of directors
as a board is obligatory. Discretionary powers, questions of policy,
business administration, all imply the personal attendance at the
meeting so that each director may have the benefit of not only the
vote, but the voice of every other director, or at least of enough
other directors to constitute a quorum ... A director cannot vote by
proxy, because his personal judgment is necessary, and he cannot
delegate his duties or assign his powers."

9.1.3. Only in 1964 was the American Model Business Corporation
Act amended by the insertion of Section 39 A which permits directors
to act by consent in writing without the necessity of holding a meeting.
The consent in writing is required to be signed by all of the directors
before the particular action is taken. Some 27 of the United States and
the District of Columbia make provision by statute for directors acting
by writing without meeting, although the statutory provisions vary
widely.

9.1.4. Section 311(1) of the Ontario Act provides that any by-law
or resolution signed during a corporation's first year of existence by all
the directors is as valid and effective as if passed at a meeting of the
directors duly called, constituted and held for that purpose. This pro-

83

vision was introduced into the Act as the result of a recommendation
of the 1952 Select Committee to provide a "means of simplifying the
procedure for organization of a corporation by eliminating useless
fictions". The recommendation, therefore, did no more than recognize
the prevailing practices by which solicitors organized companies follow-
ing their incorporation. The right of a director to act by a signed by-law
or resolution does not, however, extend beyond a company's first year
of existence.

9.1.5. Under the United Kingdom Companies Act resolutions in
writing signed by all the directors for the time being entitled to receive
notice of a meeting of the directors are as valid and effectual as if they
had been passed at a meeting of all the directors duly convened and
held. The same provision exists in the Companies Act of Nova Scotia.

9.1.6. The Committee recommends that Section 311 be amended to
provide, in effect, that a resolution or by-law in writing, at any time
signed by all the directors for the time being entitled to receive notice
of a meeting of the directors, shall be as valid and effective as if the
resolution or by-law had been passed or enacted at a duly convened
meeting at which all the directors were present. It is to be noted that
the resolution or by-law must be signed by all the directors and not by
a mere quorum of them. This recommendation will incorporate into the
Act a further extension of the principle introduced in 1954 by Section
311, that is, the elimination of the legal fiction that directors must in
all cases meet together for the purpose of exchanging views before any
action is taken by them. In the Committee's view, the affairs of a com-
pany can be managed satisfactorily without the directors being required
in each instance to meet personally for decision making. To prohibit
directors from acting except in meetings is to invite non-compliance
with the Act. On the other hand, the Committee desires to record its
view that directors of publicly-held companies should normally, if not
invariably, carry out their legal duties and obligations by means of
action taken at duly constituted meetings. The collective consideration
and interchange of ideas among directors of publicly-held companies
is conducive to good management.

106. Fraser and Stewart, supra, at 613.

107. Lippman v. Kehoe Stenograph Co. (1915) 95 Atl. 895 at

84

CHAPTER IX
The Necessity of Meetings

Section 2.

Meetings of Shareholders.

9.2.1. Earlier Chapters of this Report have noted the relatively re-
stricted role of the shareholders in the management of the affairs of
the company having regard to the broad powers conferred upon the
directors. The shareholders in general meeting are, however, vested with
authority to initiate a relatively limited range of important corporate
acts.108 In addition, under the Ontario Act the shareholders are authoriz-
ed and empowered to confirm certain acts initiated by the directors
either by way of by-law or resolution which acts, on confirmation by
the shareholders, express the "will of the company", to use the English
expression. Thus, shareholders are required to confirm "with or without
variation' resolutions of the directors which, on confirmation, become
special resolutions. The company acts by special resolution in respect
of an important range of corporate activity, including applications for
supplementary letters patent for the various purposes specified in Sec-
tion 33, increasing or decreasing the number of directors of the com-
pany, fixing the quorum at meetings of directors and providing for the
election of a chairman of the board. In addition, the Act authorizes the
directors to pass by-laws to regulate such significant matters as the allot-
ment of shares, the declaration of dividends, the qualification and re-
muneration of the directors, the election of directors, the appointment,
remuneration and duties and removal of officers, agents and employees,
procedures for holding meetings of shareholders and directors and, gen-
erally, in respect of "the conduct in all other particulars of the affairs
of the company". Any such by-law so passed by the directors is effective
only until the next annual meeting of the shareholders, unless in the
meantime confirmed at a general meeting of the shareholders duly called
for that purpose. The shareholders may at any such annual or general
meeting confirm, reject, amend or otherwise deal with any such by-law
passed by the directors. The shareholders entitled to vote at meetings of
shareholders are accordingly vested with a very broad range of con-
firmatory powers.

9.2.2. In the case of special resolutions the Act specifically provides
that, in lieu of confirmation thereof by at least 2/3 of the votes cast
at a general meeting of the shareholders duly called for that purpose, the
directors' resolution may be confirmed "by the consent in writing of all
the shareholders . . . entitled to vote at such meeting". Further, the Act
states that any by-law passed at any time during a corporation's exist-

85

ence may, in lieu of confirmation at a general meeting, be confirmed in
writing by all the shareholders entitled to vote at the meeting. Share-
holders of the company, it is therefore clear, are authorized to act in two
ways: first, by initiating particular corporate acts by virtue of express
statutory authority, such as the election of directors, the appointment of
the auditor or the appointment of an inspector; secondly, shareholders
are empowered by the Act to confirm, with or without variation or
amendment, by-laws and certain resolutions which must first be passed or
enacted by the directors and submitted to the shareholders for confirma-
tion. In the latter, but not the former, case the shareholders can at any
time act by confirmation in writing in lieu of by vote at a meeting of
shareholders.

9.2.3. Section 311(2) of the Act provides that any resolution signed
during the corporation's first year of existence by all the shareholders is
as valid and effective as if passed at a meeting of the shareholders duly
called, constituted and held for that purpose. There seems no justifica-
tion for limiting such right to the first year of the company's existence.
Shareholders are not in a fiduciary relationship either to the company
or as among themselves and, unlike directors, can exercise their voting
power as individuals and in their own particular interests. Therefore,
there is little justification in principle for requiring shareholders to
exercise their franchise at meetings if there is unanimity among them.
As the Jenkins Report stated, however:

"Where there is any possibility of there being a difference of opinion
between [shareholders] ... we think there should be a meeting at
which it may be discussed".109

The Committee therefore recommends that Section 311(2) be amended
to provide that any resolution at any time signed by all the shareholders
of the company shall be as valid and effective as if the resolution had
been passed at a duly convened meeting of the shareholders at which all
the shareholders were present. Where there is no unanimity, the matter
should be dealt with at a meeting.

108. Chapter VIII, Section 4.

109. Jenkins Eeport, para. 460.

86

CHAPTER X

The Role of the Auditor

Section 1.

The Duties of the Auditor.

10.1.1. Under the Ontario Act the auditor of a company is ap-
pointed by the shareholders at the annual meeting of shareholders.110
The remuneration of the auditor is fixed by the shareholders or by the
directors if they are authorized to do so by the shareholders. If for any
reason no auditor is appointed, the Provincial Secretary may, on the
application of a shareholder, appoint an auditor for the year in question
and fix the remuneration to be paid him by the company for his services.
The Act requires the auditor to make "such examination as will enable
him to report to the shareholders as required under" Section 82(2) of
the Act. That Section sets out the statutory duty of the auditor; it pro-
vides that the auditor shall make a report to the shareholders on the
"financial statement" required to be laid before the company at the
annual meeting by the directors. The report must state whether in the
auditor's opinion the financial statement (other than the comparative
statement for the preceding year or period) "presents fairly the financial
position of the company and the results of its operations for the period
under review in accordance with generally accepted accounting prin-
ciples applied on a basis consistent with that of the preceding period".
The Act defines a "financial statement", in the case of a public com-
pany, to include a comparative financial statement for the particular
financial year and the preceding financial year comprising a statement
of profit and loss for each period, a statement of surplus for each
period, a statement of source and application of funds for each period
and a balance sheet as at the end of each period.111 The auditor's report
is required to be read at the annual meeting.112

10.1.2. In carrying out his duties the auditor has, by the Act, right
of access at all times to all records, documents, books, accounts and
vouchers of the company and is entitled to require from the directors
and officers of the company such information and explanations as in
his opinion are necessary to enable him to report. Further, the auditor
is entitled to attend any meeting of shareholders and to receive all
notices and communications relating to such meeting that a share-
holder is entitled to receive and is entitled to be heard at any such
meeting that he attends "on any part of the business of the meeting that
concerns him as auditor".113

10.1.3. It is essential to an understanding of the role of the auditor
to appreciate that the preparation of the "financial statement" required

87

to be laid before the annual meeting of shareholders is the responsibility
of the directors of the company and not of the auditors. Sections 84 to 91
inclusive of the Act, which set out the required standards of financial
disclosure by which the financial statements are to be prepared, are
instructions to the directors of the company and not to the auditor. The
auditor's duty is confined to reporting upon the financial statements
prepared in accordance with the statutory guidelines and required to be
laid before the annual meeting of shareholders by the directors. The
research which the Committee carried out revealed that the financial
disclosure provisions of the Ontario Act, as amended in 1966, are
without a peer in the Companies Acts of any other jurisdiction which
came to the Committee's attention. The credit for this high standard of
financial disclosure for Ontario companies must be shared with the
Institute of Chartered Accountants of Ontario, whose recommendations
were incorporated into the Act when it was passed in 1953.

10.1.4. In the opinion of the Committee, no present need has been
demonstrated for amendments of major significance to the financial dis-
closure provisions of the Ontario Act. On the other hand, the Committee
concluded that, in the light of recent notorious events in commercial
affairs in Ontario, the role of the auditor needed re-examination in order
to ascertain if, in the public interest, amendments to the Act were neces-
sary to clarify or alter such role.

10.1.5. The Act does not require the auditor to report in an affirma-
tive way whether or not the company's financial statements are in agree-
ment with its accounting records or are in accordance with the require-
ments of the Act. Nor is the auditor required to state affirmatively that
he has received all the information and explanations that he has required
or that proper accounting records have been kept by the company. The
Act, however, requires the auditor to make appropriate statements in
his report if any of these four standards are not met. Therefore, while it
is probably true, as a matter of law, that in discharging his duties as the
shareholders' auditor the auditor cannot fail to render a report, he is
bound, in certain circumstances, to "qualify" his report either in respect
of the four statutory standards last referred to or in respect of any other
matter which prevents him from giving an unqualified report on the
financial statements. A qualified report is, of course, a serious matter to
the company concerned and may be a warning to the shareholders that
something is amiss with respect to the financial affairs of the company.
In a particularly grave case, the accounting deficiencies or auditing
restrictions may be so material that the auditor has no basis for an
opinion as to whether or not the financial statements present fairly
the financial position of the company so that, in such a case, he would
be required to state in his report, giving reasons, that he is unable to
express an opinion.

88

10.1.6. The above outlines summarily the role of the auditor and his
duties and rights as provided in the Ontario Act. His role is one of
examination and review. He is not required to state whether the financial
statements are "correct" or "incorrect"; nor is he required or encouraged
to comment upon the efficiency or inefficiency of management. The
auditor is not a guarantor and he is called upon by the statute only to
give his opinion on the financial statements based on the diligent appli-
cation of his professional skills. His statutory duty, however, does require
him to report on whether or not the financial statements accord with
"generally accepted accounting principles". While these principles are
not defined in the Act, the development and betterment of what con-
stitutes generally accepted accounting principles receive continuous
attention from committees of the Canadian Institute of Chartered Ac-
countants and, in Ontario, of the Institute of Chartered Accountants of
Ontario.

110. Section 80.

111. Section 83(1).

112. Section 83 (3).

113. Section 82 (4).

89

CHAPTER X
The Role of the Auditor

Section 2.

The Independence of the Auditor.

10.2.1. The Act does not state that an auditor need have any special
qualifications. In the Committee's opinion, however, no amendment to
the Act is required in this respect since the provisions of The Public
Accountancy Act114 effectively prevent anyone from performing the
statutory duties of the auditor without being licenced under that Act.

10.2.2. It is the very essence of the auditing function that the auditor
be independent, independent not only with respect to reporting but also
with respect to programming his audit techniques and procedures and
independent in the selection of areas, activities, relationships and mana-
gerial policies to be examined in the course of the audit. The Act present-
ly recognizes the necessity of the independence of the auditor by pro-
viding that certain persons may not be appointed auditors of public
companies. The provision in question reads115:

"... no person shall be appointed as auditor of a company who is a
director, officer or employee of that company or an affiliated com-
pany or who is a partner, employer or employee of any such director,
officer or employee."

This standard is lower than that imposed by many of the auditing firms in
Canada. The rules of professional conduct of the Institute of Chartered
Accountants of Ontario (the "Ontario Institute") contain two provisions
in this respect: the first states that a member of the Ontario Institute acting
as an auditor "shall maintain independence"; the second provides (not
altogether consistently) that no member or a firm of which he is a
partner shall express an opinion on the financial statements of a com-
pany "if the member, his partners, or his or their immediate families,
have any direct or indirect financial interest (or such other interest as
could influence the independence of the member or firm)" in the com-
pany unless the auditor's report discloses such interest.

10.2.3. The Committee has concluded that neither the existing
statutory prohibitions nor the rules of the Ontario Institute are adequate
to ensure that the auditor shall "maintain independence" especially
since the auditor is not presently prohibited from being a shareholder of
the company. It is essential to the role of the auditor and for the pro-
tection of the public that the auditor must not only be but appear to be
independent of management. Accordingly, the Committee recommends

90

that Section 81 of the Ontario Act be repealed and that provisions sub-
stantially as follows be substituted therefor:

" ( 1 ) No person shall be appointed as auditor of a company who is
a director, officer or employee of the company or of an affiliated
company or who is a partner, employer, employee or associate of
any such director, officer or employee;

(2) No auditor of a company shall make a report under subsection
2 of section 82 if such auditor or any partner, employer or associate
of any such auditor beneficially owns, directly or indirectly, any
capital securities of the company."

10.2.4. In order to provide for the existing situations where auditors
presently have a financial interest in companies of which they are the
auditors — a state of affairs not now prohibited by the statute — the new
Section 81 should contain a transitional provision which would afford
the auditor having such an interest an opportunity to dispose of the
interest within two years of the coming into force of the amendment
which implements the above recommendation provided, however, that
he discloses such interest in his report during the transitional period.

10.2.5. If the Committee's recommendation in Chapter II is adopted
so that the statutory concept of the "private company" will disappear,
the new recommended guidelines for the auditor's independence will
apply to all companies, whether closely-held or publicly-held.

10.2.6. In order to safeguard further the independence of the auditor
and to ensure that he is at all times acting in the interests of the share-
holders who appoint him, the Committee recommends that the Act be
amended to provide that an auditor of a company may not be appointed
receiver or receiver and manager or liquidator or trustee in bankruptcy
of any company of which he is or has been within the two preceding
years the auditor. The Rules of Conduct of the Ontario Institute contain
a prohibition substantially to this effect and the Committee is of the view
that these desirable prohibitions should be incorporated into the statute.

10.2.7. It is generally agreed that one of the most serious threats to
the independence of the auditor is the close relationship which frequently
(and naturally) develops between management and the auditor. Al-
though as a matter of statute law the auditor is appointed by the share-
holders and reports to them he is, in many cases, a financial adviser to
management and management's consultant on the financial affairs of
the company. Since it is the directors of the company who propose the
appointment of a particular auditor or firm of auditors at the annual
meeting, it follows that the close relationship which frequently forms
between the auditor and the directors can be further accentuated by the
fact that, as a practical matter, whether or not he is re-appointed to his

91

office is a management decision and not that of the shareholders.
"Management" in this context sometimes means the president and/or
the chief financial officer of the company. In carrying out his role, the
auditor not infrequently can feel under pressure to follow the dictates of
such officers.

10.2.8. To avert this threat to the auditor's independence, the Com-
mittee recommends that, in the case of a company that has issued equity
shares which have been distributed in the course of primary distribution
to the public, the Act should provide that there shall be an audit com-
mittee of the board of directors. Appropriate amendments to the Act
should stipulate that the financial statements of the company, together
with the auditor's report thereon, required to be approved by the directors
under Section 92 of the Act be first submitted to the audit committee
for the review and comments of such committee. The auditor should
have the right and may be required to appear and should have an oppor-
tunity to be heard by the audit committee; the committee should be
composed of not less than three directors, of whom a majority
shall not be officers of the company or any affiliate of the company. It is
hoped that this recommendation will make available to the auditor a
means whereby he may discuss with a committee of the directors not
only the financial statements and his report thereon, but relevant matters
arising therefrom or from his audit generally.

114. R.S.O. I960 c. 317.

115. Section 81.

92

CHAPTER X

The Role of the Auditor

Section 3.

Appointment and Removal of the Auditor.

10.3.1. As has been noted, under the Act the auditor of a company
is appointed by the shareholders at the annual meeting. There is no
statutory requirement that the notice of the annual meeting shall disclose
whom it is proposed be appointed as auditor and it is not, in fact, the
practice to make reference in the notice to the name of the proposed
auditor. Both the law and the practice in this respect are consistent with
the principle that the right to appoint the auditor is vested in the share-
holders and not in management.

10.3.2. The Regulations under the 1966 amendments to the Ontario
Act specify the contents of the information circular required to be for-
warded to shareholders by management when proxies are solicited by
management. Item 8 of the information circular reads as follows:

"If action is to be taken with respect to the appointment of auditors,
name such auditors and, if appointed within the preceding five years,
the date when they were first appointed."

It therefore follows that if the directors do not propose to recommend
the re-appointment of the existing auditor, this fact will, of necessity, be
disclosed in the information circular. The 1966 amendments to the Act
require a new form of proxy to be sent to shareholders when proxies are
solicited by management. The form of proxy must provide means where-
by the person whose proxy is solicited is "afforded an opportunity to
specify that the shares registered in his name shall be voted by the
[proxy] nominee in favour of or against each matter or group of related
matters identified therein or in the information circular as intended to be
acted upon other than . . . the appointment of auditors." As a result, the
shareholder who votes by his proxy has no means available to him to
vote for or against the auditor referred to in the information circular,
who is presumably the recommendation of management.

10.3.3. The Committee has concluded that if management does not
propose to recommend the re-appointment by the shareholders of the
existing auditor, the incumbent auditor should be given an opportunity
to be heard by the shareholders on the question of his non-re-appoint-
ment. The Committee therefore recommends that the Act be amended
to provide that if an auditor other than the incumbent auditor is named
in the information circular as proposed to be appointed at the annual

93

meeting of shareholders, the company shall at least 15 days before the
mailing of the notice of the meeting give to the incumbent auditor notice
of management's intention not to recommend his re-appointment as
auditor at the forthcoming annual meeting. In order that the incumbent
auditor may have an opportunity to be heard by shareholders, whether
or not they vote by proxy, the incumbent auditor should have the right
to furnish to the company, not less than three days prior to the mailing
of the notice of the meeting, representations in writing concerning his
non-re-appointment as auditor. The company shall be required to for-
ward such representations to the shareholders with the notice of the
meeting.

10.3.4. If the underlying reasons for the failure to re-appoint the
existing auditor are non-controversial, the incumbent auditor will no
doubt decline to take advantage of the right to make representations to
the shareholders and his successor will be appointed as auditor at the
annual meeting without controversy, especially if the incumbent audi-
tor's report to the financial statements is unqualified. On the other hand,
if the directors of the company are seeking to appoint other auditors
for any reason which the incumbent auditor believes should be explained
to the shareholders, the proposed amendments will give him the oppor-
tunity to have his representations circulated to the shareholders. As the
incumbent auditor he has, of course, the right to attend the meeting
and to be heard "on any part of the business of the meeting that con-
cerns him" as incumbent auditor.

10.3.5. It is hoped that these recommendations will strengthen the
role of the auditor as the appointee of the shareholders in that they will
tend to prevent the directors from substituting their discretion for the
discretion of the shareholders by putting forward for appointment as
auditor some person or firm more amenable to management without the
incumbent auditor having an opportunity to be heard by the share-
holders who appointed him.

10.3.6. Section 80(4) of the Act provides that the shareholders may,
by resolution passed by at least two-thirds of the votes cast at a general
meeting of which notice of intention to pass the resolution has been
given, remove any auditor before the expiration of his term of office,
and shall by a majority of the votes cast at that meeting appoint another
auditor in his stead for the remainder of his term. In Section 4 of
Chapter VIII of this Report, the Committee recommended that signifi-
cant amendments be made to Section 308 of the Act pursuant to which
shareholders may requisition meetings of shareholders, as a result of
which recommendations requisitioned meetings will be more readily
called at the instance of shareholders. As is the case with the removal
of a director during his term of office116, there seems no logical reason
why the shareholders who can appoint an auditor on a majority of the

94

votes cast at the meeting are required to pass a resolution for his re-
moval by two-thirds of the votes cast at the meeting. The Committee
therefore recommends that Section 80(4) be amended to provide that
shareholders may remove any auditor before the expiration of his term of
office by a resolution passed by at least a majority of the votes cast at
a general meeting called lor the purpose.

10.3.7. The Committee recommends that Section 80 be amended
to provide that, if a general meeting of the shareholders is to be called
for the purpose of removing the auditor, the company shall at least 15
days before the mailing of the notice of the meeting give to the incum-
bent auditor notice of the intention of calling the meeting and copies
of any material proposed to be sent to shareholders in connection with
the meeting, including the notice of the meeting. The incumbent auditor
should have the right to furnish to the company, not less than three days
prior to the mailing of the notice of the meeting, representations in writ-
ing concerning his proposed removal and the company shall be required
to forward such representations to the shareholders with the notice of
the meeting. The incumbent auditor has the right under the Act to
attend the general meeting and to be heard thereat.

116. Chapter VIII, Section 3 of the Report.

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CHAPTER X
The Role of the Auditor

Section 4.

The Right of Shareholders to Require the Attendance
of the Auditor at Shareholders' Meetings.

10.4.1. It has been noted that one of the rights of the auditor of a
company is his right to attend any meeting of shareholders and to be
heard at any such meeting on any part of the business of the meeting
that concerns him as auditor. Conversely, however, the shareholders
whose appointee the auditor is has no right to require the auditor to
attend a meeting of shareholders and answer questions concerning his
report on the financial statements. This is obviously illogical and the
Committee therefore recommends that the Act be amended to provide
that any shareholder of the company, whether or not he is entitled to
vote at meetings of shareholders, may by notice in writing to the com-
pany given at least five days before any shareholders' meeting is to be
held require the attendance of the auditor at such meeting. The pro-
posed amendment should further provide that the auditor shall be re-
quired at any such meeting to answer enquiries directed to him limited,
however, to the bases on which he has formed the opinion in the report
which he is required to make under Section 82 of the Act.

96

CHAPTER X
The Role of the Auditor

Section 5.

The Role of the Auditor of a Holding Company

10.5.1. In August 1965 the Accounting and Auditing Research Com-
mittee of the Canadian Institute of Chartered Accountants published
Bulletin No. 22 entitled ''Reliance on Other Auditors in Reporting on
Consolidated Financial Statements". Such Bulletin sets out authoritative
guidelines by which it is suggested that the auditor of the parent com-
pany may conclude he is reasonably entitled to rely upon the work and
opinion of the auditor of a subsidiary company as sufficient supporting
evidence for the acceptability of the accounts of the subsidiary. These
guidelines, which need not be reproduced here, are based upon legal
opinion obtained by the Accounting and Auditing Research Committee
as to the duty of care said to be imposed upon the auditor of a parent
company to ascertain that the consolidated financial statements of a
company and its subsidiary or subsidiaries present fairly the financial
position and results of the operations of a parent company and its con-
solidated subsidiaries if the auditor of one or more of such subsidiaries
is not the auditor of the parent.

10.5.2. In cases where an agency arrangement or agreement exists
between the auditor of the parent company and the auditor of a sub-
sidiary, it is clear that the parent company auditor is taking full respon-
sibility so far as consolidated financial statements are concerned, for
the work of the other auditor. It is equally clear that such other auditor
is also responsible in law, as an agent, to the parent company auditor.
The difficulties which exist in this area of reliance by the auditor of a
parent company, however, arise where no agency relationship exists be-
tween the two auditors and it was to set out guidelines for the account-
ing profession in this respect that Bulletin No. 22 was issued.

10.5.3. The Committee has concluded that it is neither prudent nor
desirable for recommendations to be made concerning the developing
case law delineating the liability of the auditor for negligence. Therefore,
without endeavouring to codify or enlarge the legal liability of the
auditor toward the company or to creditors or others, the Committee
is of the opinion that the Act should be amended to make clear the
scope of the auditor's duty in making a report under Section 82 on
financial statements of a company which has one or more subsidiaries
the auditor of which is not that of the parent company. The Committee
therefore recommends that Section 82 be amended by adding a sub-
section to read substantially as follows:

97

"Whether or not the assets and liabilities and income and expense
of any one or more subsidiaries of the holding company are in-
cluded in the financial statement of the holding company, the report
of the auditor of the holding company required by subsection 2 [of
section 82] may refer to the reports of auditors of one or more of
such subsidiaries but such reference shall not derogate from the duty
of the auditor of the holding company to comply with subsection 2
[of section 82]".

The effect of this recommendation is that the auditor of a parent com-
pany will thereby be required to assume responsibility for all aspects of
the financial statements of the parent company including those relating
to the subsidiaries, whether or not the accounts of the subsidiaries are
consolidated.

10.5.4. As the result of this recommendation it is necessary that a
conforming amendment be made to Section 82 to ensure that the
auditor of the parent company has the necessary rights to carry out the
duty of reporting in the cases contemplated by the amendment set out
in the preceding paragraph. The Committee therefore recommends that
Section 82 be amended by adding a subsection reading substantially as
follows:

"The auditor of a holding company has right of access at all times
to all records, documents, books, accounts and vouchers of any one
or more subsidiaries of the company and is entitled to require from
the directors and officers of any such subsidiary such information
and explanation as in his opinion are necessary to enable him to
report as required by subsection 2 [of section 82]."

98

CHAPTER XI

The Role of the Trustee under Trust Indentures

11.1.1. It is the invariable practice of companies issuing bonds, de-
bentures, notes or other obligations for sale to the public to issue such
obligations under a formal trust document known variously as a trust
deed, a trust indenture, a note indenture or the like. The indenture con-
tains the terms and conditions upon which the obligations are issued and
sets out in elaborate detail not only the security, if any, for the obliga-
tions but also provisions as to issuance, certification and transfer of the
obligations, requirements for sinking fund and for redemption or pur-
chase of the obligations, specific covenants to which the issuer becomes
subject with respect to the particular obligations and, in the case of
secured issues, provisions as to insurance, possession, use and release of
mortgaged property, etc. The indenture also contains extensive provi-
sions as to the administration of the trust and for the protection of the
trustee. The trustee is a party to the indenture and, by entering into the
indenture, becomes a trustee for all the holders of the obligations pur-
suant to the terms and conditions of the indenture. Trustees under in-
dentures are almost invariably one of the federally or provincially incor-
porated trust companies carrying on business in Canada.

11.1.2. While the Committee is conscious of the fact that the prac-
tices and abuses concerning trustees under trust indentures as they
existed in the United States thirty years ago are not, either in degree or
kind, necessarily duplicated in Ontario today, nevertheless it is useful
as a background to this topic to set out at some length an extract from
the Report of the Securities and Exchange Commission of the United
States reporting to Congress in 1936. The report in question was directed
by Congress to be made at the time the Securities Exchange Act of 1934
was passed.

"Under modern trust indentures securing issues of corporate bonds,
debentures and notes, important powers are vested in the trustee.
The security holders themselves are generally widely scattered and
their individual interest in the issue is likely to be small. The trustee,
on the other hand, is usually a single [trust company]. By virtue of
the broad discretionary powers vested in it under the typical trust
indenture it is in a position to take immediate action in a variety of
ways to protect or enforce the security underlying the bonds, deben-
tures and notes. But the security holders are rarely given any voice
in formulation of policies which the trustee pursues; the trust in-
denture ordinarily does not require that they be consulted before
the trustee acts. Hence the trustee generally need not be delayed or
embarrassed by the necessity of consulting the security holders or
of reconciling their divergent opinions and policies. Theoretically,

99

the result should be beneficial to all concerned: to the security holder
because of increased efficiency, expedition and economy; to the issuer
because a trustee is a convenient legal device for conveying title, and
because the presence of the trustee relieves the issuer of possible
suits and supervision by many individual security holders.

'But, as a matter of fact, this arrangement has resulted in injury
to thousands of investors. They have bought securities and have re-
tained no effective control over the issuer's performance of its obli-
gations in respect of them. Such control has been surrendered to or
assumed by the trustee. It has been invested with power to certify
securities; to supervise the deposit and the withdrawal of collateral
and application of funds; to take action upon default; and, in short,
to do everything upon which the protection and enforcement of the
security of a bondholder depends.

"Both in law and in practice, this reliance of the security holder
upon the trustee for protection of his investment is complete. It is
a matter of common knowledge that purchasers of securities seldom
examine the terms of the trust indenture, although they are legally
bound by its terms. Even if they did examine the indenture, the
significance of its elaborate provisions would appear only to
specialists. In some instances, indeed, it is so drafted that vital pro-
visions apparently escape the notice of highly trained investment
agencies. Reliance for adequacy of the security underlying the bonds,
notes or debentures, is placed by the investor upon the reputation
of the issuer, the underwriting bankers and the trustee. And for
honest, faithful and efficient operation of the provisions of the in-
denture, reliance is placed upon the trustee as representative of the
security holders under the terms of the indenture.

"... an examination of the provisions of modern trust indentures
and their administration by trustees will show that this reliance is
unfounded. It will show that typically the trustees do not exercise
the elaborate powers which are the bondholders' only protection;
that they have taken virtually all of the powers designed to protect
the bondholders, but have rejected any duty to exercise them; and
that they have shorn themselves of all responsibilities which normally
trusteeship imports. The "so-called trustee" which is left is merely a
clerical agency and a formal instrument which can be used by the
bondholders when and if enough of them combine as specified in
the indenture.

"It is readily admitted by these trustees that they are a species
different from the usual trustee of a testamentary or inter vivos
estate. They say they have not intended in the indentures the as-
sumption of a full quantum of trusteeship duties.

100

"Nevertheless one basic, fundamental fact cannot be overlooked;
the trustee is the only agency avowedly designed for the protection
of security holders during the entire life of the security. Further-
more, under the modern trust indenture it alone is capable of effec-
tive action. The individual security holder is impotent when acting
alone and can get together with his fellow security holders only at
great labor and expense. It is likewise true that the common under-
standing of the lay investor is that the trustee is his alter ego in safe-
guarding his rights. On these facts the trustee should not be allowed,
through indenture provisions never seen by the beneficiary, and
which would not be understood if they were seen, to whittle away
at the number of his express duties until they are practically non-
existent, and to surround itself with exculpatory clauses which leave
it harmless, despite inactivity or negligence".117

11.1.3. The Securities and Exchange Commission concluded in its
Report to Congress that it was necessary in the public interest and for
the protection of investors (a) that trustees under indentures be dis-
qualified from acting or serving if they have or acquire conflicts of
interest incompatible or inconsistent with their fiduciary obligations,
and (b) that they be transformed into active trustees with the obligation
to exercise that degree of care and diligence which the law attaches to
such a fiduciary position. Accordingly, Congress enacted the Trust
Indenture Act of 1939 which is, in form, Title III to the Securities Act
of 1933 and closely integrated with that Act. The three primary pur-
poses of the Trust Indenture Act were:

1. To provide full and fair disclosure, not only at the time of
original issue of bonds, notes, debentures, and similar securities, but
throughout the life of such securities;

2. To provide machinery whereby such continuing disclosure may
be made to the security holders, and whereby they may get together
for the protection of their own interests; and

3. To assure that the security holders will have the services of a
disinterested indenture trustee, and that such trustee will conform
to the high standards of conduct now observed by the more con-
scientious trust institutions.118

Each of these three primary purposes are, in the opinion of the Com-
mittee, of interest and concern to investors in Ontario. However, in view
of the fact that the Legislature has recently enacted The Securities Act,
1966 which fundamentally revises the degree and quality of disclosure
in connection with the primary distribution of securities to the public,
the Committee is now concerned more directly with the third primary

101

purpose of the Trust Indenture Act, namely, to ensure that the security
holders will enjoy the services of a disinterested indenture trustee and that
such trustee will conform to high standards of conduct. Set out in Ap-
pendix D to this Report are extracts from the Trust Indenture Act.

1 1.1.4. The Committee recommends that the Ontario Act be amended
by addkig thereto a new Part which shall provide that trust indentures
to which an Ontario company is a party as issuer or guarantor of
obligations or which are expressed to be governed by Ontario law shall
be required to contain provisions substantially to the following effect:

(a) that in the exercise of the duties, rights and obligations pre-
scribed or conferred by the terms of the indenture, the trustee shall
be required to exercise that degree of care, diligence and skill which
a reasonably prudent trustee would exercise in comparable circum-
stances;

(b) that in the exercise of its duties, rights and obligations the
trustee may conclusively rely, as to the truth of the statements and
correctness of the opinions expressed therein, in the absence of bad
faith on the part of the trustee, upon certificates or opinions con-
forming to the requirements of the indenture, provided, however,
that the indenture shall be required to contain provisions requiring
the trustee to examine evidence furnished to it in terms comparable
to Section 314(c), (e) and (f) and Section 315(a) of the Trust
Indenture Act to determine whether or not such evidence conforms
to the requirements of the indenture;

(c) that the trustee shall be required to give to holders of securities
issued under the indenture, within 60 days after the occurrence
thereof, notice of all events of default under the indenture known to
the trustee subject, however, to the same proviso as is contained in
Section 315(b) of the Trust Indenture Act;

(d) that the indenture shall not contain any provisions relieving
the trustee from liability for breach of the duty of care, diligence
and skill imposed upon the trustee as referred to in sub-paragraph (a)
above except as is provided in Section 315(d) of the Trust Indenture
Act;

(e) that a trustee shall not be appointed an indenture trustee if it
has any conflict of interest with its role as a fiduciary and that the
trustee shall resign from its office in the event any such conflict of
interest shall subsequently arise.

In the opinion of the Committee it is not necessary to define "conflict
of interest" as is the case, in effect, in Section 310(b) of the Trust
Indenture Act as there is no evidence before the Committee that in-
denture trustees in Ontario have failed to discharge their fiduciary obli-

102

gations because of the existence of any of the relationships proscribed
by that Section. What is or is not, as a matter of fact, a conflict of
interest should be clearly discernible in the great majority of cases.

11.1.5. The recommendations in paragraph 11.1.4 impose upon in-
denture trustees duties and responsibilities commensurate with their
proper role as fiduciary for the security holders. The indenture trustee
must be independent and must conform to a high standard of conduct
in discharging its prescribed duties. There are, however, other problems
arising under indentures securing obligations issued to the public. For
example, what role should be played by the indenture trustee and, per-
haps, by the security purchasers themselves, in seeing to the enforce-
ment of special covenants in the indenture such as the maintenance
of specified security for the benefit of the security holders? These other
problems should attract the careful and fair-minded attention of issuers,
underwriters and fiscal agents so that, through the give and take of con-
tract negotiations leading to the entering into of the indenture, the best
interests of the investing public will be served. If the parties to in-
dentures cannot or do not strengthen and upgrade indenture provisions
designed to protect the investor, the Legislature will have no alterna-
tive but to do by law what could more flexibly be accomplished by
strengthening the indenture provisions in the interests of the security
holders.

1 1.1.6. During the last 25 years or so, the practice has grown up in
Ontario and elsewhere in Canada whereby the receiver or receiver and
manager appointed by the court, in the event of default under inden-
tures securing obligations, whether on the application of the company
or a creditor, is frequently the trustee under the indenture securing the
obligations in default. In very many cases the company consents to the
appointment of the indenture trustee as receiver or receiver and man-
ager. A receiver duly appointed by the court is an officer and repre-
sentative of the court.119 A receiver should be wholly disinterested in
the subject matter of the receivership. The practice of appointing the
indenture trustee as receiver or receiver and manager is, accordingly, a
reprehensible practice which should be discontinued, as the indenture
trustee is under a fiduciary obligation with respect to the holders of
the obligations issued under the indenture. As stated in Kerr120:

"The two characters of trustee and receiver are rarely compatible,
and, in addition to this, the appointment of a trustee to act as
receiver is, unless he undertakes to act without remuneration, a
violation of the rule of equity that a trustee cannot derive any benefit
from the discharge of his duty as trustee. The court will even remove
a receiver whose private interests are in conflict with his duties,
notwithstanding that his acts may for the most part have been for the

103

general good of the property, and that a majority in number and
value of the incumbrancers on it may desire that he be retained."

In order to ensure that the recommendations in paragraph 11.1.4(e)
as to the avoidance by indenture trustees of conflicts of interests are
fully effective, the Committee suggests that the new Part of the
Act recommended in paragraph 11.1.4 should contain a prohibition
against an indenture trustee being appointed as receiver or receiver and
manager of the assets of the company which issued or guaranteed the
obligations issued under the indenture.

117. SEC, Report on the Study and Investigation of the Work, Activities,
Personnel and Functions of Protective and Reorganization Committees, Part
VI, Trustees under Indentures (1936), quoted in Loss, Securities Regulation
(2d Ed. 1961) Vol. II at 720 et seq.

118. Loss, supra, at 725.

119. Kerr, On the law and Practice as to Receivers (13th Ed., 1963) at 133.

120. Supra, at 105.

121. See also paragraph 10.2.6 above concerning the appointment of auditors as
receivers.

104

CHAPTER XII

Mortmain and Charitable Uses

Section 1.

The Law of Charitable Uses.

12.1.1. The Mortmain and Charitable Uses Act122 provides that land
assured otherwise than by will to or for the benefit of any charitable use
must be sold, in the absence of a court determined extension, within
two years of the date of its acquisition. Further, certain assurances of
land to a charitable use are void altogether. "Charitable use" is defined
to include the relief of poverty, education, the advancement of religion
and any other purpose beneficial to the community. If land validly
assured to a charitable use is not sold within the period prescribed, it
vests forthwith in the Public Trustee who must cause it to be sold "with
all reasonable speed"123 and after payment of the costs and expenses of
the sale the Public Trustee must pay the balance of the proceeds to the
trustees for the charity. It would appear that the two-year period may
only be extended by a judge of the Supreme Court of Ontario if a con-
tract of sale has been executed in that period or if it is made to appear
that a sale of it is imminent. The time may not be extended so that the
charity may benefit by an anticipated enhancement in value of the
property beyond the two years.124 If a judge of the Supreme Court of
Ontario is satisfied that land conveyed or devised to a charity is re-
quired by it for actual occupation for the purposes of the charity, and
not as an investment, he may by order sanction the retention of the
land.125

12.1.2. The historical background of the present legislation can be
briefly summarized. The Statute of Elizabeth, 43 Eliz. 1. c. 4, known
as the Statute of Charitable Uses, encouraging the making of charitable
gifts of land, was the first of a series of enactments relating to this sub-
ject in England. The beginning of the 18th century saw a reversal in
public policy with respect to charitable gifts in the enactment in 1736
of the Georgian Statute of Mortmain, 9 Geo. II. c. 36. The preamble
to that Act refers to the many improvident dispositions of land made
by languishing or dying persons and, with the object of avoiding such
dispositions, the statute provided that no lands or personalty to be laid
out in the purchase of lands should be given to any charitable use unless
by deed made at least 12 months before the death of the donor and
to take effect in possession for the charitable use immediately. Com-
menting on the policy of the 1736 Act a noted American author
stated126:

105

"The purpose of the statute must have been in part at least, to pre-
vent the taking of land out of commerce, and not merely to protect
the heir of the settlor, since the statute applied to testamentary dis-
positions of money to be laid out in the purchase of land, although
it did not apply to personal property bequeathed as such for chari-
table purposes."

12.1.3. In 1888 a consolidation of the 1736 Act and amendments
thereto was enacted by the English Parliament and known as the Mort-
main and Charitable Uses Act, 1888.127 The 1888 Act did not alter the
absolute prohibition of the 1736 Act against devising lands by will for
charitable uses but summarized the requirements of a valid inter vivos
assurance for the benefit of a charitable use as follows:

(i) the assurance had to take effect in possession for the charitable
use immediately;

(ii) save for certain exceptions, there were to be no reservations in
favour of the assuror; and

(iii) the assurance had to be by deed and unless made in good faith
for full and valuable consideration, be executed at least 12
months before the death of the assuror.

It is to be noted that the 1888 Act did not place any restraint on the
power of charities to hold land for purposes of investment so long as it
had been validly conveyed to such charities in the first instance.

12.1.4. The 1888 Act was altered by the introduction in England of
the Mortmain and Charitable Uses Act, 1891128 permitting testamentary
dispositions of land to charities provided the requirements of that Act
were complied with, namely:

"Land may be assured by will to or for the benefit of any charitable
use, but, except as herein-after provided, such land shall, notwith-
standing anything in the will contained to the contrary, be sold
within one year from the death of the testator, or such extended
period as may be determined by the High Court, or any judge
thereof sitting at chambers, or by the Charity Commissioners."

The 1891 Act further provided that if it were shown to the satisfaction
of the High Court that such land was required for actual occupation
by and for the purposes of the charity, its retention could be sanctioned.
If the land was not sold within the year, the Act provided that such
land vested forthwith in the official trustee of charity lands and the
Charity Commissioners were to attend to its sale forthwith.

12.1.5. The policy of the 1891 Act was commented upon by Lord
Halsbury in In re Hume, Forbes v. Hume where he stated129:

106

"In 1891 the Legislature . . . determined ... to allow persons to
devise lands as much as they pleased for charitable purposes, but
they would more effectively get rid of the real objection, namely, the
inalienability of land given to charity, by providing that while any
one may make such a disposition as he pleases, when he has done it,
the land shall within twelve months be turned into personalty. By
that alteration of the whole course of the law the Legislature have
attempted to provide against the difficulty which the idea of the
inalienability of land had presented to the mind of the Legislature in
former times, and which they had endeavoured to meet."

The 1888 and 1891 Statutes remained in force in England until their
repeal by the Charities Act, 1960.

12.1.6. The 1736 Georgian Statute of Mortmain was held to be the
law of this province as early as 1846.130 It was not until 1892 that the
absolute prohibition of the 1736 Georgian Act against the devise of
lands for charitable purposes was removed by the enactment in this
province of The Mortmain and Charitable Uses Act, 1892. The 1892
Ontario Act adopted almost verbatim the provisions of the 1891 English
Act permitting testamentary dispositions of lands to charities but still
subject to the restrictions that such land be sold within a specified period
unless held for actual occupation and use by the charity.

12.1.7. The Georgian mortmain law pertaining to inter vivos assur-
ances was repealed in this province by the Mortmain and Charitable
Uses Act, 1902131 adopting substantially the terms of the English Act
of 1888 to the effect that inter vivos assurances to charitable uses would
be void unless certain requirements were met. As in the case of the
English Act of 1888 there was no requirement that land validly assured
be sold within any specified period. It will be seen, therefore, that the
position in this province in 1902 was substantially that of the English
law of that time and it was then only in the case of a testamentary
disposition of land that a sale of it within a specified period of time was
required. It would appear that the danger of land becoming inalienable
when acquired by a charity, otherwise than by will, was either over-
looked or was not a matter of public concern in the year 1902.

12.1.8. The 1892 and 1902 Acts were repealed in 1909 and in their
place was enacted The Mortmain and Charitable Uses Act, 1909132
which, except for amendments made in 1927 and 1953 which are not
relevant to this Report, remains the law of this province today. It was
in the 1909 Statute that the provisions of the present Section 7 were
first introduced requiring the sale of land acquired by inter vivos assur-
ance within two years from its acquisition unless such land was actually
occupied for the purposes of the charity.

107

12.1.9. The Province of Quebec is the only other jurisdiction in
Canada with legislation comparable to the Ontario Mortmain and
Charitable Uses Act. Mortmain legislation is virtually non-existent in
the United States.

12.1.10. Many Ontario educational institutions are exempt from the
provisions of The Mortmain and Charitable Uses Act by the inclusion
in their incorporating statute of special provisions such as the follow-
ing133:

"The University shall have, in addition to the power, right and
privileges mentioned in Section 27 of The Interpretation Act power
to purchase or otherwise acquire, take or receive by deed, gift, be-
quest or devise, and to hold and enjoy any estate or property what-
soever and to sell, grant, convey, mortgage, lease or otherwise dis-
pose of the same or any part thereof from time to time and as occa-
sion may require and to acquire other estate or properties in addition
thereto or in the place thereof, without licence in mortmain and
without limitation as to the period of holding."

12.1.11. The repeal of the English Acts in 1960 implemented the
recommendations of the Committee on the Law and Practice Relating
to Charitable Trusts under the chairmanship of the Rt. Hon. Lord
Nathan. The following extract from that Report summarizes, it is sub-
mitted, not only the position in England at the time of the Report but
the position which prevails in Ontario today:

"... mortmain and charitable uses have a long history behind
them and now apply, in a highly illogical manner, only to trusts for
certain purposes, many types of trusts having from time to time
been exempted from them. They are in any case an anachronism in
the conditions of the twentieth century and we recommend their
repeal ..."

12.1.12. It is truly an anachronism that contemporary educational
institutions and other investors whose form or function falls into the
category of a "charitable use" should be prevented from investing any
part of the substantial funds at their disposal in real property in Ontario,
for what may best be described as a feudal fear that such property might
thereby become inalienable. It is known that the funds of modern
universities, for example, are invested by skilled investment committees
similar to those of corporate investors or financial institutions. The
business community of this province could benefit by the removal of
the present restrictions so that the substantial funds of such institu-
tions and other similar investors could be made available for the de-
velopment of real property. It is equally an anachronism that the law
should prohibit or restrict deathbed gifts or devises of land to charitable,

108

educational or religious objects. Land no longer has the economic sig-
nificance it had at the time of the enactment of the Georgian mortmain
laws.

12.1.13. The Committee recommends that Sections 6 to 13 inclusive
of The Mortmain and Charitable Uses Act be repealed and that any
land in fact held by any charitable institution at the date of such amend-
ment may continue to be so held by any such institution without restric-
tion as to time and without risk of forfeiture or vesting in any public
authority, and that any land so held by any such institution which at
the date of such amendment has by virtue of Section 7(2) of the Act
vested in the Public Trustee but in respect of which the Public Trustee
has not caused any steps to be taken for its sale as required by Section
10(2) of the Act shall be immediately re- vested in such institution.

122. R.S.O. 1960, c. 246.

123. Section 10(2).

124. In Re Sidebottom, Beeley v. Sidebottom, [1901] 2 Ch. 1 at 5, reversed on
different grounds [1902] 2 Ch. 389.

125. Sections 7(3) and 12 respectively.

126. Scott, Abridgment of the Law of Trust, p. 656.

127. 51 & 52 Vict. c. 42.

128. 54 & 55 Vict. c. 73.

129. [1895] 1 Ch. 422 at 433.

130. Doe d. Anderson v. Todd et al (1846) 2 U.C.Q.B. 82; Cleary v. Purcell (1894)
23 S.C.R. 101.

131. S.O. 2 Ed. VII c. 2.
132 S.O. 9 Ed. VII c. 58.

133. See, for example: The Victoria University Act, 1951, S.O. 1951 c. 119.

109

CHAPTER XI!
Mortmain and Charitable Uses

Section 2.

The Law of Mortmain.

12.2.1. Although mortmain and charitable uses are dealt with to-
gether in The Mortmain and Charitable Uses Act, they are in fact two
distinct matters. Since Magna Carta there has been a series of statutes
prohibiting or restricting conveyances of land to charitable and other
corporations. The purpose of these enactments was on the one hand to
prevent the disinheriting of heirs and the loss of dues owed to the feudal
lord and, on the other hand, to prevent corporations from becoming too
powerful by the accumulation of what was then the main source of
wealth — landed property. Thus, corporations whose existence was per-
petual were restricted from accumulating real property in mortmain —
in the "dead hand".

12.2.2. Section 2(1) of The Mortmain and Charitable Uses Act of
Ontario provides that land cannot be assured to or for the benefit of or
acquired or held by or on behalf of any corporation in mortmain
otherwise than under the authority of a licence or a statute. The term
"assurance" is defined in the Act as including a gift, conveyance, ap-
pointment, lease, transfer, settlement, mortgage, charge, encumbrance,
devise, bequest and every other assurance by deed, will or other instru-
ment. The term "land" is defined in the Act as including tenements and
hereditaments, corporeal and incorporeal, of whatever tenure, but not
money secured on land or other personal estate arising from or con-
nected with land.

12.2.3. The prohibition in Section 2(1) is a general one: no cor-
poration can acquire land unless it does so under authority of a statute
or a licence of the Province. The Mortmain and Charitable Uses Act
has been held to be intra vires the Legislature of Ontario and, therefore,
applicable to lands acquired by companies incorporated under the
Canada Corporations Act but not, of course, to lands acquired by
certain specified corporations over which the Federal Parliament has
exclusive legislative authority under the British North America Act.134
The Act provides for the issuance of licences in mortmain but such
licences are not required if the corporation has some other authority
to hold land: for example, a corporation which holds a licence as an
extra-provincial corporation under Part IX of the Ontario Act thereby
has authority to hold land for certain purposes; The Insurance Act
(Ontario) provides that an insurer licenced under that Act may acquire

110

and hold such real property as is necessary for the transaction of its
business or bona fide mortgaged to it by way of security; and The Loan
and Trust Corporations Act authorizes certain companies subject to that
Act to take and hold real property. The authority of companies incor-
porated under the Ontario Act to hold land is contained in Section 288
and 289 of the Act and the authority conferred by these Sections can
be broadened by including in the charter of the company specific
powers to acquire and hold real property.

12.2.4. In the opinion of the Committee, the historical bases for the
Ontario mortmain legislation have ceased to be meaningful. The vestiges
of mortmain legislation which remained in England at the time of the
Nathan Report have been repealed.135 There are, moreover, some poten-
tially serious problems arising from the definition of the term "assurance"
in The Mortmain and Charitable Uses Act in that the definition would
appear to include any lease, thereby prohibiting leases without the
authority of a statute or licence. There being no evidence that mortmain
legislation serves any useful purpose or that any element of public in-
terest is being protected thereby, the Committee recommends that Sec-
tions 1 to 5 inclusive of The Mortmain and Charitable Uses Act be
repealed.

134. Great West Saddlery Company Limited v. The King [1021] 2 A.C. 91 at 119.

135. The Charities Act, I960, 8 & 9 Eliz. II c. 58.

Ill

CHAPTER XIII
Filing of Accounts in Office of Public Record

13.1.1. The Ontario Act requires a public company to forward to
each shareholder a copy of the financial statement of the company and
a copy of the auditor's report. Shareholders of a private company are
entitled under the Act to be furnished by the company, on demand,
with a copy of the financial statement and auditor's report.136 Neither
the public nor the private company is required to file its financial state-
ment with the Provincial Secretary or in any office of public record,
nor has any such requirement ever existed in Ontario law.137

13.1.2. The Canada Corporations Act requires a public company to
file its annual financial statements with the Registrar-General and a
comparable provision is found in the Companies Acts of British Colum-
bia, Alberta and Saskatchewan. These requirements, however, do not
apply to private companies. It should also be noted that the ap-
plicable provisions in the laws of British Columbia, Alberta and Sask-
atchewan require only that a copy of the balance sheet be filed and not
copies of the statement of profit and loss, statement of earned surplus
or any other statement. When the Canada Corporations Act was intro-
duced in the Parliament of Canada in 1964, the Bill provided, in effect,
that the financial statements required to be filed with the Department of
the Secretary of State should not be open for public inspection except
on the written direction of the Secretary of State given on the recom-
mendation of the Chief Justice or Acting Chief Justice of the court of
the province in which the head office of the company is situated. This
provision was deleted by amendment in the Standing Committee on
Banking and Commerce, so that the Bill as finally passed did not con-
tain the suggested restriction on the availability of the financial state-
ments for public inspection.

13.1.3. The United Kingdom Companies Act requires all companies
other than "exempt private companies" to file accounts in an office of
public record. It has been pointed out in Chapter II, Section 1 of this
Report that the distinction between public and private companies was
first introduced in the English Companies Act in 1908 in order to dis-
tinguish between those companies which should and those companies
which should not file in an office of public record copies of their balance
sheets. As a result of recommendations of the Cohen Committee, the
United Kingdom Companies Act was amended in 1948 to introduce a
sophisticated distinction between exempt and non-exempt private com-
panies, thereby requiring all companies other than exempt private com-
panies to file accounts. However, the concept of the exempt private
company was found in practice to be "notoriously complicated" and the

112

Jenkins Committee recommended the abolition of this distinction be-
tween exempt and non-exempt private companies, with the result that
all companies would be required to file accounts. l88 A government bill
implementing this recommendation has been introduced into the United
Kingdom Parliament.

13.1.4. Section 133 of The Securities Act, 1966 will require Ontario
companies whose equity shares have been distributed to the public in
Ontario in the course of primary distribution to the public to file with
the Ontario Securities Commission financial statements, auditor's reports
thereon and interim financial statements that are required to be mailed
by the company to its shareholders. The financial statements so filed
with the Commission shall be open to public inspection. This, of course,
is a new requirement of Ontario law which should prove to be of value
to investment dealers, security analysts, representatives of the press and
the investing public in general.

13.1.5. The question faced by the Committee was whether or not all
Ontario companies should be required to file their financial statements
in an office of public record. The question should more meaningfully be
put in another way, namely, what categories of persons have a genuine
and legitimate right to financial information concerning companies with
which they deal? The present law requires that the financial information
of both public and private companies be made available only to share-
holders. The question is a vexing one. Cogent arguments can be made
in favour of a full disclosure rationale. Many proponents of unrestricted
financial disclosure hold to the belief that full disclosure is the price
tag attached to doing business in the corporate form, whether the com-
pany is public or private. The question, however, is not that straight-
forward; complex economic issues are involved. Critics of the sugges-
tion that all companies should file their financial statements in an office
of public record talk of invasion of personal privacy, especially with
regard to closely-held companies or family investment and holding com-
panies. Such critics say there are no legitimate reasons for the disclosure
of financial information in such cases. Suppliers and others dealing with
the closely-held company which carries on business with the public
would not, the critics contend, avail themselves of the filed information
and, in any event, since the filing would perforce be only on an annual
basis, the information available would quickly be out of date. Further,
the critics say, if financial statements were required to be made public,
attempts would be made by management to make them less rather than
more meaningful. As many of the companies incorporated in Ontario
are, in essence, small incorporated proprietorships or partnerships, the
cost of preparing full financial statements for public filing could be said
to be an unfair burden. Both the proponents and opponents of the ques-
tion agree that mandatory filing of financial statements would disclose

113

information to competitors with a resultant possibility of competitive
detriment in many cases. Further, public disclosure would enable take-
over bidders and others to scrutinize the financial affairs of com-
panies with a view to acquisition. The sole proprietor or the small
partnership would no doubt hesitate to seek the benefits of incorpora-
tion if public disclosure of all financial information was the cost of in-
corporation.

13.1.6. A compromise between the proponents and opponents of
public filing of accounts might be possible if an accurate and workable
statutory definition could be devised to divide the class of companies
which should be required to file their financial statements from those
which should not be so required. The Committee has concluded, how-
ever, that in the fight of the experience in the United Kingdom a satis-
factory statutory segregation of the two classes of companies is probably
not possible. The myriad types of businesses seem to preclude the pos-
sibility of fairly separating those companies which should be required to
file their accounts from those companies which should not.

13.1.7. The Committee does not recommend that the financial state-
ments of all companies be required to be filed with the Provincial Sec-
retary or in any office of public record. No change in the existing law is
suggested. In reaching this conclusion consideration was given to the
meritorious arguments on both sides of this difficult question. The
balancing factor in the Committee's conclusion was that there is, at
present, no way of assessing the real social value from a public interest
standpoint of the harsh requirement that all companies, without excep-
tion, disclose their financial affairs to the general public. Future experi-
ence from the operation of Section 133 of The Securities Act, 1966
might develop guidelines by which it is possible to assess the economic
value to the whole community of complete disclosure of financial affairs
of all companies. However, in the absence of such guidelines the Com-
mittee is not prepared to recommend that Ontario should pass legisla-
tion which would, in effect, cause it to be the first Canadian jurisdiction
which requires mandatory disclosure of the financial affairs of all com-
panies incorporated within the jurisdiction. Only four of the United
States require the filing of any financial information in an office of
public record.139

136. Section 93.

137. Section 139 of the Act, however, requires a co-operative corporation to
transmit to the Provincial Secretary after each annual meeting a copy of
its financial statement and auditor's report.

138. Jenkins Report, paras. 55 to 63.

139. Massachusetts and Michigan require the annual filing in an office of public
record of a statement of assets and liabilities. Indiana and Nebraska have
lesser requirements.

114

CHAPTER XIV
The Need for a "Companies' Court"

14.1.1. A number of the recommendations in this Report will, if im-
plemented, result in applications being made by shareholders and others
*4to a judge of the High Court designated by the Chief Justice of the
High Court". The quoted expression, which we have used throughout
the Report, is taken from The Securities Act, 1966 which introduced
into that Act the concept of the use of "designated" judges for the
adjudication of various security law matters arising under that statute.
For example, a particular take-over bid may be exempted from the
take-over bid requirements of The Securities Act, 1966 by order of a
designated judge140; the Ontario Securities Commission may apply to a
designated judge to require the compliance by any person or company
of the insider trading reporting requirements of the Act141; and a desig-
nated judge may make an order requiring the Ontario Securities Com-
mission, in certain circumstances, to commence or continue an action
to enforce in the name and on behalf of the company the unlawful
insider trading provisions of the Act.142

14.1.2. Similarly, the 1966 amendments to the Ontario Act contain
provisions corollary to those referred to above in The Securities Act,
1966. The Ontario Securities Commission may apply to "a judge of the
High Court designated by the Chief Justice of the High Court" for an
order requiring compliance by any person with the insider trading re-
porting requirements of the Act143; a designated judge may make an
order requiring the Ontario Securities Commission to commence or con-
tinue an action in the name and on behalf of the company to enforce
the unlawful insider trading provisions of the Act144; any interested
person or company may apply to a designated judge for an order ex-
empting any person or company from the new requirements as to man-
datory proxy solicitation, the form of proxy and the furnishing of an
information circular145; a public company may apply to a designated
judge for an order permitting the omission from the company's financial
statements of sales or gross operating revenues otherwise required to be
disclosed.146

14.1.3. Taken together, these provisions in The Securities Act, 1966
and the 1966 amendments to the Ontario Act and, assuming their
implementation, the various recommendations in this Report will no
doubt result in numbers of applications being made to the court for
the various forms of relief made available by the new enactments. In
the Committee's opinion, the public interest would be best served if these
applications in the security and corporation law field were made to

115

judges of the High Court designated by the Chief Justice of the High
Court, so that the designated judges can accumulate expertise and
familiarity in this specialized area. Furthermore, the use of designated
judges would enable orders to be obtained with a minimum of delay
and inconvenience to the public. The Committee, therefore, recom-
mends that the Chief Justice of the High Court of Ontario be asked to
designate not less than five judges of the High Court as judges who
should hear the various applications brought under The Securities Act,
1966 and The Corporations Act as it is to be amended. These designated
judges would, in effect, constitute a "Companies' Court" to deal with
the specialized proceedings which will arise under the new and complex
legislation. The Committee also recommends that the Rules of Practice
of the Supreme Court of Ontario be amended appropriately to recognize
the existence of such a "Companies' Court" as is the case in the United
Kingdom where the Rule Committee of the Supreme Court has promul-
gated rules setting out the procedure to govern applications under the
various provisions of the United Kingdom Companies Act.

140. Section 89.

141. Section 112.

142. Section 114.

143. Section 71c (5).

144. Section 71e(l).

145. Section 75d(2).

146. Section 84(3).

116

Appendix A

Extracts from the New York State Business Corporation Law
re incorporation and charter amendment

§402. Certificate of incorporation; contents. — (a) A certificate,

entitled "Certificate of incorporation of

(name of corporation) under section 402 of the Business Corporation
Law", shall be signed by each incorporator, with his name and address
stated beneath or opposite his signature, acknowledged and delivered
to the department of state . . .

[Here follow the specified contents of the certificate}

§ 403. Certificate of incorporation; effect — Upon the filing of the
certificate of incorporation by the department of state, the corporate
existence shall begin, and such certificate shall be conclusive evidence
that all conditions precedent have been fulfilled and that the corporation
has been formed under this chapter, except in an action or special pro-
ceeding brought by the attorney-general.

§ 801. Right to amend certificate of incorporation. — (a) A corpor-
ation may amend its certificate of incorporation, from time to time, in
any and as many respects as may be desired, if such amendment con-
tains only such provisions as might be lawfully contained in an original
certificate of incorporation filed at the time of making such amendment.

(b) In particular, and without limitation upon such general power of
amendment, a corporation may amend its certificate of incorporation,
from time to time, so as: . . .

[Here follow 13 types of specified amendments]

(14) To strike out, change or add any provision, not inconsistent
with this chapter or any other statute, relating to the business of the
corporation, its affairs, its rights or powers, or the rights or powers of
its shareholders, directors or officers, including any provision which
under this chapter is required or permitted to be set forth in the
by-laws, except that a certificate of amendment may not be filed
wherein the duration of the corporation shall be reduced.

§ 805. Certificate of amendment; contents. — (a) To accomplish any
amendment, a certificate of amendment, entitled "Certificate of amend-
ment of the certificate of incorporation of

(name of corporation) under section 805 of the Business Corporation
Law," shall be signed, verified and delivered to the department of
state. . . .

[Here follow the specified contents of the certificate of amendment]
[The law of New York contains special provisions applicable to the in-
corporation of banks, insurance companies and co-operatives.]

117

Appendix B

Extracts from the New York State Business Corporation Law
re purchase of a company's own shares

§513. Purchase or redemption by a corporation of its own shares.

(a) A corporation, subject to any restrictions contained in its certm-
cate of incorporation, may purchase its own shares, or redeem its re-
deemable shares, out of surplus except when currently the corporation
is insolvent or would thereby be made insolvent.

(b) A corporation may purchase its own shares out of stated capital
except when currently the corporation is insolvent or would thereby be
made insolvent, if the purchase is made for the purpose of:

( 1 ) Eliminating fractions of shares;

(2) Collecting or compromising indebtedness to the corporation;
or

(3) Paying shareholders entitled to receive payment for their
shares under section 623 (Procedure to enforce shareholder's right to
receive payment for shares).

§514. Agreements for purchase by a corporation of its own shares.

(a) An agreement for the purchase by a corporation of its own shares
shall be enforceable by the shareholder and the corporation to the extent
such purchase is permitted at the time of purchase by section 513
(Purchase or redemption by a corporation of its own shares).

(b) The possibility that a corporation may not be able to purchase
its shares under section 513 shall not be a ground for denying to either
party specific performance of an agreement for the purchase by a cor-
poration of its own shares, if at the time for performance the corpor-
ation can purchase all or part of such shares under section 513.

§515 Reacquired shares.

(a) Shares that have been issued and have been purchased, redeemed
or otherwise reacquired by a corporation shall be cancelled if they are
reacquired out of stated capital, or if they are converted shares, or if
the certificate of incorporation requires that such shares be cancelled
upon reacquisition.

(b) Any shares reacquired by the corporation and not required to be
cancelled may be either retained as treasury shares or cancelled by the
board at the time of reacquisition or at any time thereafter.

(c) Neither the retention of reacquired shares as treasury shares, nor
their subsequent distribution to shareholders or disposition for a con-

118

sideration shall change the stated capital. When treasury shares are dis-
posed of for a consideration, the capital surplus shall be increased by
the full amount of the consideration received unless the corporation
excercises the option granted in subparagraph (a)(5) of section 517
(Special provisions relative to surplus and reserves).

(d) When reacquired shares other than converted shares are cancelled,
the stated capital of the corporation is thereby reduced by the amount
of stated capital then represented by such shares plus any stated
capital not theretofore allocated to any designated class or series
which is thereupon allocated to the shares cancelled. The amount by
which stated capital has been reduced by cancellation of reacquired
shares during a stated period of time shall be disclosed in the next finan-
cial statement covering such period that is furnished by the corporation
to all its shareholders or, if practicable, in the first notice of dividend or
share distribution that is furnished to the holders of each class or series
of its shares between the end of the period and the next such financial
statement, and in any event to all its shareholders within six months of
the date of the reduction of capital.

(e) Shares cancelled under this section are restored to the status of
authorized but unissued shares. However, if the certificate of incorpora-
tion prohibits the reissue of any shares required or permitted to be can-
celled under this section, the board by certificate of amendment under
section 805 (Certificate of amendment; contents) shall reduce the num-
ber of authorized shares accordingly.

119

Appendix C

Uniform Commercial Code — Article 8
incorporating officially recommended amendments thereto

Article 8

INVESTMENT SECURITIES

Part 1 . Short Title and General Matters

§8-101. Short Title.

This Article shall be known and may be cited as Uniform Commercial
Code — Investment Securities.

§8-102. Definitions and Index of Definitions.

( 1 ) In this Article unless the context otherwise requires

(a) A "security" is an instrument which

(i) is issued in bearer or registered form; and

(ii) is of a type commonly dealt in upon securities exchanges or
markets or commonly recognized in any area in which it is issued or
dealt in as a medium for investment; and

(iii) is either one of a class or series or by its terms is divisible into a
class or series of instruments; and

(iv) evidences a share, participation or other interest in property or
in an enterprise or evidences an obligation of the issuer.

(b) A writing which is a security is governed by this Article and not
by Uniform Commercial Code-Commercial Paper even though it also
meets the requirements of that Article. This Article does not apply to
money.

(c) A security is in "registered form" when it specifies a person en-
titled to the security or to the rights it evidences and when its transfer
may be registered upon books maintained for that purpose by or on
behalf of an issuer or the security so states.

(d) A security is in "bearer form" when it runs to bearer according
to its terms and not by reason of any indorsement.

(2) "proper form" means regular on its face with regard to all formal
matters.

(3) A "subsequent purchaser" is a person who takes other than by
original issue.

(4) A "clearing corporation" is a corporation all of the capital stock
of which is held by or for a national securities exchange or association

120

registered under a statute of the United States such as the Securities
Exchange Act of 1934.

(5) A "custodian bank" is any bank or trust company which is super-
vised and examined by state or federal authority having supervision over
banks and which is acting as custodian for a clearing corporation.

(6) Other definitions applying to this Article or to specified Parts
thereof and the sections in which they appear are:

"Adverse claim". Section 8-301.

"Bona fide purchaser". Section 8-302.

"Broker". Section 8-303.

"Guarantee of the signature". Section 8-402.

"Intermediary bank". Section 4-105.

"Issuer". Section 8-201.

"Overissue". Section 8-104.

(7) In addition Article 1 [not reproduced in this Appendix] contains
general definitions and principles of construction and interpretation
applicable throughout this Article.

§8-103. Issuer's Lien.

A hen upon a security in favor of an issuer thereof is valid against a
purchaser only if the right of the issuer to such lien is noted conspicu-
ously on the security.

§8-104. Effect of Overissue; "Overissue."

( 1 ) The provisions of this Article which validate a security or compel
its issue or reissue do not apply to the extent that validation, issue or
reissue would result in overissue; but

(a) if an identical security which does not constitute an overissue is
reasonably available for purchase, the person entitled to issue or valida-
tion may compel the issuer to purchase and deliver such a security to
him against surrender of the security, if any, which he holds; or

(b) if a security is not so available for purchase, the person entitled
to issue or validation may recover from the issuer the price he or the
last purchaser for value paid for it with interest from the date of his
demand.

(2) "Overissue" means the issue of securities in excess of the amount
which the issuer has corporate power to issue.

§8-105. Securities Negotiable; Presumptions.

(1) Securities governed by this Article are negotiable instruments.

(2) In any action on a security

121

(a) unless specifically denied in the pleadings, each signature on the
security or in a necessary indorsement is admitted;

(b) when the effectiveness of a signature is put in issue the burden of
establishing it is on the party claiming under the signature but the
signature is presumed to be genuine or authorized;

(c) when signatures are admitted or established production of the
instrument entitles a holder to recover on it unless the defendant estab-
lishes a defence or a defect going to the validity of the security; and

(d) after it is shown that a defence or defect exists the plaintiff has
the burden of establishing that he or some person under whom he claims
is a person against whom the defence or defect is ineffective (Section
8-202).

§8-106. Applicability.

The validity of a security and the rights and duties of the issuer with
respect to registration of transfer are governed by the law (including
the conflict of laws rules) of the jurisdiction of organization of the
issuer.

§8-107. Securities Deliverable; Action for Price.

(1) Unless otherwise agreed and subject to any applicable law or
regulation respecting short sales, a person obligated to deliver securities
may deliver any security of the specified issue in bearer form or regis-
tered in the name of the transferee or indorsed to him or in blank.

(2) When the buyer fails to pay the price as it comes due under a
contract of sale the seller may recover the price

(a) of securities accepted by the buyer; and

(b) of other securities if efforts at their resale would be unduly
burdensome or if there is no readily available market for their resale.

Part 2. Issue — Issuer

§8-201. "Issuer."

( 1 ) With respect to obligations on or defenses to a security "issuer"
includes a person who

(a) places or authorizes the placing of his name on a security (other-
wise than as authenticating trustee, registrar, transfer agent or the like)
to evidence that it represents a share, participation or other interest in
his property or in an enterprise or to evidence his duty to perform an
obligation evidenced by the security; or

(b) directly or indirectly creates fractional interests in his rights or
property which fractional interests are evidenced by securities; or

122

(c) becomes responsible for or in place of any other person described
as an issuer in this section.

(2) With respect to obligations on or defenses to a security a guar-
antor is an issuer to the extent of his guaranty whether or not his obli-
gation is noted on the security.

(3) With respect to registration of transfer (Part 4 of this Article)
"issuer" means a person on whose behalf transfer books are maintained.

§8-202. Issuer's Responsibility and Defenses; Notice of Defect or
Defense.

( 1 ) Even against a purchaser for value and without notice, the terms
of a security include those stated on the security and those made part of
the security by reference to another instrument, indenture or document
or to a constitution, statute, ordinance, rule, regulation, order or the like
to the extent that the terms so referred to do not conflict with the stated
terms. Such a reference does not of itself charge a purchaser for value
with notice of a defect going to the validity of the security even though
the security expressly states that a person accepting it admits such notice.

(2) (a) A security other than one issued by a government or govern-
mental agency or unit even though issued with a defect going to its
validity is valid in the hands of a purchaser for value and without notice
of the particular defect unless the defect involves a violation of consti-
tutional provisions in which case the security is valid in the hands of a
subsequent purchaser for value and without notice of the defect.

(b) The rule of subparagraph (a) applies to an issuer which is a
government or governmental agency or unit only if either there has been
substantial compliance with the legal requirements governing the issue
or the issuer has received substantial consideration for the issue as a
whole or for the particular security and a stated purpose of the issue is
one for which the issuer has power to borrow money or issue the
security.

( 3 ) Except as otherwise provided in the case of certain unauthorized
signatures on issue (Section 8-205), lack of genuineness of a security is
a complete defense even against a purchaser for value and without
notice.

(4) All other defenses of the issuer including non-delivery and con-
ditional delivery of the security are ineffective against a purchaser for
value who has taken without notice of the particular defense.

(5) Nothing in this section shall be construed to affect the right of a
party to a "when, as and if issued" or a "when distributed" contract to
cancel the contract in the event of a material change in the character of

123

the security which is the subject of the contract or in the plan or arrange-
ment pursuant to which such security is to be issued or distributed.

§8-203. Staleness as Notice of Defects or Defenses.

(1) After an act or event which creates a right to immediate per-
formance of the principal obligation evidenced by the security or which
sets a date on or after which the security is to be presented or sur-
rendered for redemption or exchange, a purchaser is charged with notice
of any defect in its issue or defense of the issuer.

(a) if the act or event is one requiring the payment of money or the
delivery of securities or both on presentation or surrender of the security
and such funds or securities are available on the date set for payment or
exchange and he takes the security more than one year after that date;
and

(b) if the act or event is not covered by paragraph (a) and he takes
the security more than two years after the date set for surrender or
presentation or the date on which such performance became due.

(2) A call which has been revoked is not within subsection (1).

§8-204. Effect of Issuer's Restrictions on Transfer.

Unless noted conspicuously on the security a restriction on transfer
imposed by the issuer even though otherwise lawful is ineffective except
against a person with actual knowledge of it.

§8-205. Effect of Unauthorized Signature on Issue.

An unauthorized signature placed on a security prior to or in the
course of issue is ineffective except that the signature is effective in
favor of a purchaser for value and without notice of the lack of authority
if the signing has been done by

(a) an authenticating trustee, registrar, transfer agent or other person
entrusted by the issuer with the signing of the security or of similar
securities or their immediate preparation for signing; or

(b) an employee of the issuer or any of the foregoing entrusted
with responsible handling of the security.

§8-206. Completion or Alteration of Instrument.

( 1 ) Where a security contains the signatures necessary to its issue
or transfer but is incomplete in any other respect

(a) any person may complete it by filling in the blanks as authorized;
and

(b) even though the blanks are incorrectly filled in, the security as
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completed is enforceable by a purchaser who took it for value and with-
out notice of such incorrectness.

(2) A complete security which has been improperly altered even
through fraudulently remains enforceable but only according to its
original terms.

§8-207. Rights of Issuer With Respect to Registered Owners.

( 1 ) Prior to due presentment for registration of transfer of a security
in registered form the issuer or indenture trustee may treat the registered
owner as the person exclusively entitled to vote, to receive notifications
and otherwise to exercise all the rights and powers of an owner.

(2) Nothing in this Article shall be construed to affect the liability
of the registered owner of a security for calls, assessments or the like.

§8-208. Effect of Signature of Authenticating Trustee, Registrar, or
Transfer Agent.

( 1 ) A person placing his signature upon a security as authenticating
trustee, registrar, transfer agent or the like warrants to a purchaser for
value without notice of the particular defect that

(a) the security is genuine and in proper form; and

(b) his own participation in the issue of the security is within his
capacity and within the scope of the authorization received by him from
the issuer; and

(c) he has reasonable grounds to believe that the security is in the
form and within the amount the issuer is authorized to issue.

(2) Unless otherwise agreed, a person by so placing his signature
does not assume responsibility for the validity of the security in other
respects.

Part 3. Purchase

§8-301. Rights Acquired by Purchaser; Title Acquired by
Bona Fide Purchaser.

( 1 ) Upon delivery of a security the purchaser acquires the rights in
the security which his transferor had or had actual authority to convey
except that a purchaser who has himself been a party to any fraud or
illegality affecting the security or who as a prior holder had notice of
an adverse claim cannot improve his position by taking from a later
bona fide purchaser. "Adverse claim" includes a claim that a transfer
was or would be unauthorized or wrongful or that a particular adverse
person is the owner of or has an interest in the security.

(2) A bona fide purchaser in addition to acquiring the rights of a
purchaser also acquires the security free of any adverse claim.

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(3) A purchaser of a limited interest acquires rights only to the
extent of the interest purchased.

§8-302. "Bona Fide Purchaser."

A "bona fide purchaser" is a purchaser for value in good faith and
without notice of any adverse claim who takes delivery of a security in
bearer form or of one in registered form issued to him or indorsed to
him or in blank.

§8-303. "Broker."

"Broker" means a person engaged for all or part of his time in the
business of buying and selling securities, who in the transaction con-
cerned acts for, or buys a security from or sells a security to a customer.
Nothing in this Article determines the capacity in which a person acts
for purposes of any other statute or rule to which such person is subject.

§8-304. Notice to Purchaser of Adverse Claims.

( 1 ) A purchaser (including a broker for the seller or buyer but ex-
cluding an intermediary bank) of a security is charged with notice of
adverse claims if

(a) the security whether in bearer or registered form has been in-
dorsed "for collection" or "for surrender" or for some other purpose not
involving transfer; or

(b) the security is in bearer form and has on it an unambiguous
statement that it is the property of a person other than the transferor.
The mere writing of a name on a security is not such a statement.

(2) The fact that the purchaser (including a broker for the seller or
buyer) has notice that the security is held for a third person or is
registered in the name of or indorsed by a fiduciary does not create a
duty of inquiry into the rightfulness of the transfer or constitute notice
of adverse claims. If, however, the purchaser (excluding an intermediary
bank) has knowledge that the proceeds are being used or that the tran-
saction is for the individual benefit of the fiduciary or otherwise in
breach of duty, the purchaser is charged with notice of adverse claims.

§8-305. Staleness as Notice of Adverse Claims.

An act or event which creates a right to immediate performance of
the principal obligation evidenced by the security or which sets a date
on or after which the security is to be presented or surrendered for
redemption or exchange does not of itself constitute any notice of ad-
verse claims except in the case of a purchase

(a) after one year from any date set for such presentment or sur-
render for redemption or exchange; or

126

(b) after six months from any date set for payment of money against
presentation or surrender of the security if funds are available for pay-
ment on that date.

§8-306. Warranties on Presentment and Transfer.

( 1 ) A person who presents a security for registration of transfer or
for payment or exchange warrants to the issuer that he is entitled to the
registration, payment or exchange. But a purchaser for value without
notice of adverse claims who receives a new, reissued or re-registered
security on registration of transfer warrants only that he has no knowl-
edge of any unauthorized signature (Section 8-311) in a necessary in-
dorsement.

(2) A person by transferring a security to a purchaser for value
warrants only that

(a) his transfer is effective and rightful; and

(b) the security is genuine and has not been materially altered; and

(c) he knows no fact which might impair the validity of the security.

(3) Where a security is delivered by an intermediary known to be
entrusted with delivery of the security on behalf of another or with col-
lection of a draft or other claim against such delivery, the intermediary
by such delivery warrants only his own good faith and authority even
though he has purchased or made advances against the claim to be
collected against the delivery. A broker is not an intermediary within
the meaning of this subsection.

(4) A pledgee or other holder for security who redelivers the security
received, or after payment and on order of the debtor delivers that
security to a third person makes only the warranties of an intermediary
under subsection (3).

( 5 ) A broker gives to his customer and to the issuer and a purchaser
the warranties provided in this section and has the rights and privileges
of a purchaser under this section. The warranties of and in favor of the
broker acting as an agent are in addition to applicable warranties given
by and in favor of his customer.

§8-307. Effect of Delivery Without Indorsement; Right to Compel
Indorsement.

Where a security in registered form has been delivered to a purchaser
without a necessary indorsement he may become a bona fide purchaser
only as of the time the indorsement is supplied, but against the trans-
feror the transfer is complete upon delivery and the purchaser has a
specifically enforceable right to have any necessary indorsement supplied.

127

§8-308. Indorsement, How Made; Special Indorsement; Indorser Not
a Guarantor; Partial Assignment.

( 1 ) An indorsement of a security in registered form is made when an
appropriate person signs on it or on a separate document an assignment
or transfer of the security or a power to assign or transfer it or when
the signature of such person is written without more upon the back of
the security.

(2) An indorsement may be in blank or special. An indorsement in
blank includes an indorsement to bearer. A special indorsement specifies
the person to whom the security is to be transferred, or who has power
to transfer it. A holder may convert a blank indorsement into a special
indorsement.

(3) "An appropriate person" in subsection (1) means

(a) the person specified by the security or by special indorsement to
be entitled to the security; or

(b) where the person so specified is described as a fiduciary but is no
longer serving in the described capacity, — either that person or his suc-
cessor; or

(c) where the security or indorsement so specifies more than one per-
son as fiduciaries and one or more are no longer serving in the described
capacity, the remaining fiduciary or fiduciaries, whether or not a suc-
cessor has been appointed or qualified; or

(d) where the person so specified is an individual and is without
capacity to act by virtue of death, incompetence, infancy or otherwise,
his executor, administrator, guardian or like fiduciary; or

(e) where the security or indorsement so specifies more than one per-
son as tenants by the entirety or with right of survivorship and by reason
of death all cannot sign, the survivor or survivors; or

(f ) a person having power to sign under applicable law or controlling
instrument; or

(g) to the extent that any of the foregoing persons may act through
an agent, his authorized agent.

(4) Unless otherwise agreed the indorser by his indorsement assumes
no obligation that the security will be honored by the issuer.

(5) An indorsement purporting to be only of part of a security repre-
senting units intended by the issuer to be separately transferable is effec-
tive to the extent of the indorsement.

(6) Whether the person signing is appropriate is determined as of
the date of signing and an indorsement by such a person does not be-

128

come unauthorized for the purposes of this Article by virtue of any sub-
sequent change of circumstances.

(7) Failure of a fiduciary to comply with a controlling instrument or
with the law of the state having jurisdiction of the fiduciary relationship,
including any law requiring the fiduciary to obtain court approval of the
transfer, does not render his indorsement unauthorized for the purposes
of this Article.

§8-309. Effect of Indorsement Without Delivery.

An indorsement of a security whether special or in blank does not
constitute a transfer until delivery of the security on which it appears
or if the indorsement is on a separate document until the delivery of both
the document and the security.

§8-310. Indorsement of Security in Bearer Form.

An indorsement of a security in bearer form may give notice of ad-
verse claims (Section 8-304) but does not otherwise affect any right to
registration the holder may possess.

§8-311. Effect of Unauthorized Indorsement.

Unless the owner has ratified an unauthorized indorsement or is other-
wise precluded from asserting its ineffectiveness

(a) he may assert its ineffectiveness against the issuer or any pur-
chaser other than a purchaser for value and without notice of adverse
claims who has in good faith received a new, reissued or re-registered
security on registration of transfer; and

(b) an issuer who registers the transfer of a security upon the un-
authorized indorsement is subject to liability for improper registration
(Section 8-404).

§8-312. Effect of Guaranteeing Signature or Indorsement.

( 1 ) Any person guaranteeing a signature of an indorser of a security
warrants that at the time of signing

(a) the signature was genuine; and

(b) the signer was an appropriate person to indorse (Section 8-308);
and

(c) the signer had legal capacity to sign.

But the guarantor does not otherwise warrant the rightfulness of the
particular transfer.

(2) Any person may guarante an indorsement of a security and by
so doing warrants not only the signature (subsection 1) but also the

129

rightfulness of the particular transfer in all respects. But no issuer may
require a guarantee of indorsement as a condition to registration of
transfer.

(3) The foregoing warranties are made to any person taking or deal-
ing with the security in reliance on the guarantee and the guarantor is
liable to such person for any loss resulting from breach of the warranties.

§8-313. When Delivery to the Purchaser Occurs; Purchaser's Broker
as holder.

( 1 ) Delivery to a purchaser occurs when

(a) he or a person designated by him acquires possession of a se-
curity; or

(b) his broker acquires possession of a security specially indorsed to
or issued in the name of the purchaser; or

(c) his broker sends him confirmation of the purchase and also by
book entry or otherwise identifies a specific security in the broker's pos-
session as belonging to the purchaser; or

(d) with respect to an identified security to be delivered while still
in the possession of a third person when that person acknowledges that
he holds for the purchaser; or

(e) appropriate entries on the books of a clearing corporation are
made under Section 8-320.

(2) The purchaser is the owner of a security held for him by his
broker, but is not the holder except as specified in subparagraphs (b),
(c) and (e) of subsection (1). Where a security is part of a fungible bulk
the purchaser is the owner of a proportionate property interest in the
fungible bulk.

( 3 ) Notice of an adverse claim received by the broker or by the pur-
chaser after the broker takes delivery as a holder for value is not effec-
tive either as to the broker or as to the purchaser. However, as between
the broker and the purchaser the purchaser may demand delivery of an
equivalent security as to which no notice of an adverse claim has been
received.

§8-314. Duty to Deliver, When Completed.

( 1 ) Unless otherwise agreed where a sale of a security is made on an
exchange or otherwise through brokers

(a) the selling customer fulfills his duty to deliver when he places
such a security in the possession of the selling broker or of a person
designated by the broker or if requested causes an acknowledgment to
be made to the selling broker that it is held for him; and

130

(b) the selling broker including a correspondent broker acting for
a selling customer fulfills his duty to deliver by placing the security or a
like security in the possession of the buying broker or a person desig-
nated by him or by effecting clearance of the sale in accordance with
the rules of the exchange on which the transaction took place.

(2) Except as otherwise provided in this section and unless other-
wise agreed, a transferor's duty to deliver a security under a contract
of purchase is not fulfilled until he places the security in form to be
negotiated by the purchaser in the possession of the purchaser or of
a person designated by him or at the purchaser's request causes an
acknowledgment to be made to the purchaser that it is held for him.
Unless made on an exchange a sale to a broker purchasing for his own
account is within this subsection and not within subsection (1).

§8-315. Action Against Purchaser Based Upon Wrongful Transfer.

( 1 ) Any person against whom the transfer of a security is wrongful
for any reason, including his incapacity, may against anyone except a
bona fide purchaser reclaim possession of the security or obtain posses-
sion of any new security evidencing all or part of the same rights or
have damages.

(2) If the transfer is wrongful because of an unauthorized indorse-
ment, the owner may also reclaim or obtain possession of the security
or new security even from a bona fide purchaser if the ineffectiveness
of the purported indorsement can be asserted against him under the pro-
visions of this Article on unauthorized indorsements (Section 8-311).

(3) The right to obtain or reclaim possession of a security may be
specially enforced and its transfer enjoined and the security impounded
pending the litigation.

§8-316. Purchaser's Right to Requisites for Registration of Transfer
on Books.

Unless otherwise agreed the transferor must on due demand supply
his purchaser with any proof of his authority to transfer or with any
other requisite which may be necessary to obtain registration of the
transfer of the security but if the transfer is not for value a transferor
need not do so unless the purchaser furnishes the necessary expenses.
Failure to comply with a demand made within a reasonable time gives
the purchaser the right to reject or rescind the transfer.

§8-317. Attachment or Levy Upon Security.

(1) No attachment or levy upon a security or any share or other
interest evidenced thereby which is outstanding shall be valid until the
security is actually seized by the officer making the attachment or levy

131

but a security which has been surrendered to the issuer may be attached
or levied upon at the source.

(2) A creditor whose debtor is the owner of a security shall be en-
titled to such aid from courts of appropriate jurisdiction, by injunction
or otherwise, in reaching such security or in satisfying the claim by
means thereof as is allowed at law or in equity in regard to property
which cannot readily be attached or levied upon by ordinary legal
process.

§8-318. No Conversion by Good Faith Delivery.

An agent or bailee who in good faith (including observance of reason-
able commercial standards if he is in the business of buying, selling
or otherwise dealing with securities) has received securities and sold,
pledged or delivered them according to the instructions of his principal
is not liable for conversion or for participation in breach of fiduciary
duty although the principal had no right to dispose of them.

§8-319. Statute of Frauds.

A contract for the sale of securities is not enforceable by way of
action or defense unless

(a) there is some writing signed by the party against whom enforce-
ment is sought or by his authorized agent or broker sufficient to indicate
that a contract has been made for sale of a stated quantity of described
securities at a defined or stated price; or

(b) delivery of the security has been accepted or payment has been
made but the contract is enforceable under this provision only to the
extent of such delivery or payment; or

(c) within a reasonable time a writing in confirmation of the sale or
purchase and sufficient against the sender under paragraph (a) has been
received by the party against whom enforcement is sought and he has
failed to send written objection to its contents within ten days after its
receipt; or

(d) the party against whom enforcement is sought admits in his
pleading, testimony or otherwise in court that a contract was made for
sale of a stated quantity of described securities at a defined or stated
price.

§8-320. Transfer or Pledge within a Central Depository System.
( 1 ) If a security

(a) is in the custody of a clearing corporation or of a custodian bank
or a nominee of either subject to the instructions of the clearing cor-
poration; and

132

(b) is in bearer form or indorsed in blank by an appropriate person
or registered in the name of the clearing corporation or custodian bank
or a nominee of either; and

(c) is shown on the account of a transferor or pledgor on the books
of the clearing corporation;

then, in addition to other methods, a transfer or pledge of the security
or any interest therein may be effected by the making of appropriate
entries on the books of the clearing corporation reducing the account
of the transferor or pledgor and increasing the account of the transferee
or pledgee by the amount of the obligation or the number of shares or
rights transferred or pledged.

(2) Under this section entries may be with respect to like securities
or interests therein as a part of a fungible bulk and may refer merely to
a quantity of a particular security without reference to the name of the
registered owner, certificate or bond number or the like and, in appro-
priate cases, may be on a net basis taking into account other transfers
or pledges of the same security.

(3) A transfer or pledge under this section has the effect of a de-
livery of a security in bearer form or duly indorsed in blank (Section
8-301) representing the amount of the obligation or the number of
shares or rights transferred or pledged. If a pledge or the creation of a
security interest is intended, the making of entries has the effect of a
taking of delivery by the pledgee or a secured party (Sections 9-304 and
9-305). A transferee or pledgee under this section is a holder.

(4) A transfer or pledge under this section does not constitute a
registration of transfer under Part 4 of this Article.

(5) That entries made on the books of the clearing corporation as
provided in subsection (1) are not appropriate does not affect the validity
or effect of the entries nor the liabilities or obligations of the clearing
corporation to any person adversely affected thereby.

Part 4. Registration

§8-401. Duty of Issuer to Register Transfer.

(1) Where a security in registered form is presented to the issuer
with a request to register transfer, the issuer is under a duty to register
the transfer as requested if

(a) the security is indorsed by the appropriate person or persons
(Section 8-308); and

(b) reasonable assurance is given that those indorsements are genuine
and effective (Section 8-402); and

133

(c) the issuer has no duty to inquire into adverse claims or lias dis-
charged any such duty (Section 8-403).

(d) any applicable law relating to the collection of taxes has been
complied with; and

(e) the transfer is in fact rightful or is to a bona fide purchaser.

(2) Where an issuer is under a duty to register a transfer of a security
the issuer is also liable to the person presenting it for registration or his
principal for loss resulting from any unreasonable delay in registration
or from failure or refusal to register the transfer.

§8-402. Assurance that Indorsements Are Effective.

( 1 ) The issuer may require the following assurance that each neces-
sary indorsement (Section 8-308) is genuine and effective

(a) in all cases, a guarantee of the signature (subsection (1) of Section
8-312) of the person indorsing; and

(b) where the indorsement is by an agent, appropriate assurance of
authority to sign;

(c) where the indorsement is by a fiduciary, appropriate evidence of
appointment or incumbency;

(d) where there is more than one fiduciary, reasonable assurance that
all who are required to sign have done so; and

(e) where the indorsement is by a person not covered by any of the
foregoing, assurance appropriate to the case corresponding as nearly
as may be to the foregoing.

(2) A "guarantee of the signature" in subsection (1) means a guar-
antee signed by or on behalf of a person reasonably believed by the
issuer to be responsible. The issuer may adopt standards with respect to
responsibility provided such standards are not manifestly unreasonable.

(3) "Appropriate evidence of appointment or incumbency" in sub-
section (1) means

(a) in the case of a fiduciary appointed or qualified by a court, a
certificate issued by or under the direction or supervision of that court
or an officer thereof and dated within sixty days before the date of
presentation for transfer; or

(b) in any other case, a copy of a document showing the appoint-
ment or a certificate issued by or on behalf of a person reasonably be-
lieved by the issuer to be responsible or, in the absence of such a docu-
ment or certificate, other evidence reasonably deemed by the issuer to
be appropriate. The issuer may adopt standards with respect to such

134

evidence provided such standards are not manifestly unreasonable. The
issuer is not charged with notice of the contents of any document ob-
tained pursuant to this paragraph (b) except to the extent that the con-
tents relate directly to the appointment or incumbency.

(4) The issuer may elect to require reasonable assurance beyond that
specified in this section but if it does so and for a purpose other than
that specified in subsection 3(b) both requires and obtains a copy of a
will, trust, indenture, articles of co-partnership, by-laws or other con-
trolling instrument it is charged with notice of all matters contained
therein affecting the transfer.

§8-403. Limited Duty of Inquiry.

( 1 ) An issuer to whom a security is presented for registration is under
a duty to inquire into adverse claims if

(a) a written notification of an adverse claim is received at a time
and in a manner which affords the issuer a reasonable opportunity to
act on it prior to the issuance of a new, reissued or re-registered security
and the notification identifies the claimant, the registered owner and the
issue of which the security is a part and provides an address for com-
munications directed to the claimant; or

(b) the issuer is charged with notice of an adverse claim from a con-
trolling instrument which it has elected to require under subsection (4)
of Section 8-402.

(2) The issuer may discharge any duty of inquiry by any reasonable
means, including notifying an adverse claimant by registered or certified
mail at the address furnished by him or if there be no such address at
his residence or regular place of business that the security has been pre-
sented for registration of transfer by a named person, and that the trans-
fer will be registered unless within thirty day.* from the date of mailing
the notification, either

(a) an appropriate restraining order, injunction or other process
issues from a court of competent jurisdiction; or

(b) an indemnity bond sufficient in the issuer's judgment to protect
the issuer and any transfer agent, registrar or other agent of the issuer
involved, from any loss which it or they may suffer by complying with
the adverse claim is filed with the issuer.

(3) Unless an issuer is charged with notice of an adverse claim from
a controlling instrument which it has elected to require under subsection
(4) of Section 8-402 or receives notification of an adverse claim under
subsection ( 1 ) of this section, where a security presented for registration
is indorsed by the appropriate person or persons the issuer is under no
duty to inquire into adverse claims. In particular

135

(a) an issuer registering a security in the name of a person who is
a fiduciary or who is described as a fiduciary is not bound to inquire
into the existence, extent, or correct description of the fiduciary relation-
ship and thereafter the issuer may assume without inquiry that the newly
registered owner continues to be the fiduciary until the issuer receives
written notice that the fiduciary is no longer acting as such with respect
to the particular security;

(b) an issuer registering transfer on an indorsement by a fiduciary
is not bound to inquire whether the transfer is made in compliance with
a controlling instrument or with the law of the state having jurisdiction
of the fiduciary relationship, including any law requiring the fiduciary
to obtain court approval of the transfer; and

(c) the issuer is not charged with notice of the contents of any court
record or file or other recorded or unrecorded document even though
the document is in its possession and even though the transfer is made
on the indorsement of a fiduciary to the fiduciary himself or to his
nominee.

§8-404. Liability and Non-Liability for Registration.

( 1 ) Except as otherwise provided in any law relating to the collection
of taxes, the issuer is not liable to the owner or any other person suffer-
ing loss as a result of the registration of a transfer of a security if

(a) there were on or with the security the necessary indorsements
(Section 8-308); and

b) the issuer had no duty to inquire into adverse claims or has dis-
charged any such duty (Section 8-403).

(2) Where an issuer has registered a transfer of a security to a person
not entitled to it the issuer on demand must deliver a like security to the
true owner unless

(a) the registration was pursuant to subsection (1); or

(b) the owner is precluded from asserting any claim for registering
the transfer under subsection ( 1 ) of the following section; or

(c) such delivery would result in overissue, in which case the issuer's
liability is governed by Section 8-104.

§8-405. Lost, Destroyed and Stolen Securities.

(1) Where a security has been lost, apparently destroyed or wrong-
fully taken and the owner fails to notify the issuer of that fact within
a reasonable time after he has notice of it and the issuer registers a
transfer of the security before receiving such a notification, the owner
is precluded from asserting against the issuer any claim for registering

136

the transfer under the preceding section or any claim to a new security
under this section.

(2) Where the owner of a security claims that the security has been
lost, destroyed or wrongfully taken, the issuer must issue a new security
in place of the original security if the owner

(a) so requests before the issuer has notice that the security has been
acquired by a bona fide purchaser; and

(b) files with the issuer a sufficient indemnity bond; and

(c) satisfies any other reasonable requirements imposed by the issuer.

(3) If, after the issue of the new security, a bona fide purchaser of
the original security presents it for registration of transfer, the issuer
must register the transfer unless registration would result in overissue,
in which event the issuer's liability is governed by Section 8-104. In
addition to any rights on the indemnity bond, the issuer may recover
the new security from the person to whom it was issued or any person
taking under him except a bona fide purchaser.

§8-406. Duty of Authenticating Trustee, Transfer Agent or Registrar.

(1) Where a person acts as authenticating trustee, transfer agent,
registrar, or other agent for an issuer in the registration of transfers of
its securities or in the issue of new securities or in the cancellation of
surrendered securities

(a) he is under a duty to the issuer to exercise good faith and due
diligence in performing his functions; and

(b) he has with regard to the particular functions he performs the
same obligation to the holder or owner of the security and has the same
rights and privileges as the issuer has in regard to those functions.

(2) Notice to an authenticating trustee, transfer agent, registrar or
other such agent is notice to the issuer with respect to the functions per-
formed by the agent.

137

Appendix D
Extract from the United States Trust Indenture Act of 1939

Necessity for Regulation

Sec. 302. (a) Upon the basis of facts disclosed by the reports of the
Securities and Exchange Commission made to the Congress pursuant
to section 211 of the Securities Exchange Act of 1934 and otherwise
disclosed and ascertained, it is hereby declared that the national public
interest and the interest of investors in notes, bonds, debentures, evi-
dences of indebtedness, and certificates of interest or participation there-
in, which are offered to the public, are adversely affected —

( 1 ) when the obligor fails to provide a trustee to protect and enforce
the rights and to represent the interests of such investors, notwithstand-
ing the fact that (A) individual action by such investors for the purpose
of protecting and enforcing their rights is rendered impracticable by
reason of the disproportionate expense of taking such action, and (B)
concerted action by such investors in their common interest through
representatives of their own selection is impeded by reason of the wide
dispersion of such investors through many States, and by reason of the
fact that information as to the names and addresses of such investors
generally is not available to such investors;

(2) when the trustee does not have adequate rights and powers, or
adequate duties and responsibilities, in connection with matters relating
to the protection and enforcement of the rights of such investors; when,
notwithstanding the obstacles to concerted action by such investors, and
the general and reasonable assumption by such investors that the trustee
is under an affirmative duty to take action for the protection and en-
forcement of their rights, trust indentures (A) generally provide that
the trustee shall be under no duty to take any such action, even in the
event of default, unless it receives notice of default, demand for action,
and indemnity, from the holders of substantial percentages of the securi-
ties outstanding thereunder, and (B) generally relieve the trustee from
liability even for its own negligent action or failure to act;

(3) when the trustee does not have resources commensurate with its
responsibilities, or has any relationship to or connection with the obligor
or any underwriter of any securities of the obligor, or holds, bene-
ficially or otherwise, any interest in the obligor or any such underwriter,
which relationship, connection, or interest involves a material conflict
with the interests of such investors;

(4) when the obligor is not obligated to furnish to the trustee under
the indenture and to such investors adequate current information as to
its financial condition, and as to the performance of its obligations with

138

respect to the securities outstanding under such indenture; or when the
communication of such information to such investors is impeded by the
fact that information as to the names and addresses of such investors
generally is not available to the trustee and to such investors:

(5) when the indenture contains provisions which are misleading or
deceptive, or when full and fair disclosure is not made to prospective
investors of the effect of important indenture provisions; or

(6) when, by reason of the fact that trust indentures are commonly
prepared by the obligor or underwriter in advance of the public offer-
ing of the securities to be issued thereunder, such investors are unable
to participate in the preparation thereof, and, by reason of their lack of
understanding of the situation, such investors would in any event be
unable to procure the correction of the defects enumerated in this sub-
section.

(b) Practices of the character above enumerated have existed to such
an extent that, unless regulated, the public offering of notes, bonds, de-
bentures, evidences of indebtedness, and certificates of interest or par-
ticipation therein, by the use of means and instruments of transportation
and communication in interstate commerce and of the mails, is injurious
to the capital markets, to investors, and to the general public; and it is
hereby declared to be the policy of this title, in accordance with which
policy all the provisions of this title shall be interpreted, to meet the
problems and eliminate the practices, enumerated in this section, con-
nected with such public offerings.

Disqualification of Trustee

Sec. 310 (b) The indenture to be qualified shall provide that if any in-
denture trustee has or shall acquire any conflicting interest as hereinafter
defined, (i) such trustee shall, within ninety days after ascertaining that
it has such conflicting interest, either eliminate such conflicting interest
or resign, such resignation to become effective upon the appointment
of a successor trustee and such successor's acceptance of such appoint-
ment, and the obligor upon the indenture securities shall take prompt
steps to have a successor appointed in the manner provided in the in-
denture; and (ii) in the event that such trustee shall fail to comply
with the provisions of clause (i) of this subsection, such trustee shall,
within ten days after the expiration of such ninety-day period, transmit
notice of such failure to the indenture security holders in the manner
and to the extent provided in subsection (c) of section 313; and (hi)
subject to the provisions of subsection (e) of section 315, any security
holder who has been a bona fide holder of indenture securities for at
least six months may, on behalf of himself and all others similarly
situated, petition any court of competent jurisdiction for the removal of
such trustee, and the appointment of a successor, if such trustee fails,

139

after written request therefor by such holder, to comply with the pro-
visions of clause (i) of this subsection. For the purposes of this sub-
section, an indenture trustee shall be deemed to have a conflicting
interest if —

( 1 ) such trustee is trustee under another indenture under which any
other securities, or certificates of interest or participation in any other
securities, of an obligor upon the indenture securities are outstanding
unless (A) the indenture securities are collateral trust notes under
which the only collateral consists of securities issued under such other
indenture, or (B) such other indenture is a collateral trust indenture
under which the only collateral consists of indenture securities, or (C)
such obligor has no substantial unmortgaged assets and is engaged prim-
arily in the business of owning, or of owning and developing and/or
operating, real estate, and the indenture to be qualified and such other
indenture are secured by wholly separate and distinct parcels of real
estate: Provided, That the indenture to be qualified may contain a pro-
vision excluding from the operation of this paragraph another indenture
or indentures under which other securities, or certificates of interest
or participation in other securities, of such an obligor are outstanding,
if (i) the indenture to be qualified and such other indenture or inden-
tures are wholly unsecured, and such other indenture or indentures are
specifically described in the indenture to be qualified or are thereafter
qualified under this title, unless the Commission shall have found and
declared by order pursuant to subsection (b) of section 305 or sub-
section (c) of section 307 that differences exist between the provisions
of the indenture to be qualified and the provisions of such other in-
denture or indentures which are so likely to involve a material conflict
of interest as to make it necessary in the public interest or for the pro-
tection of investors to disqualify such trustee from acting as such under
one of such indentures, or (ii) the issuer shall have sustained the burden
of proving, on application to the Commission and after opportunity for
hearing thereon, that trusteeship under the indenture to be qualified and
such other indenture is not so likely to involve a material conflict of
interest as to make it necessary in the public interest or for the protec-
tion of investors to disqualify such trustee from acting as such under
one of such indentures;

(2) such trustee or any of its directors or executive officers is an
obligor upon the indenture securities or an underwriter for such an
obligor;

(3) such trustee directly or indirectly controls or is directly or in-
directly controlled by or is under direct or indirect common control
with an obligor upon the indenture securities or an underwriter for such
an obligor;

140

(4) such trustee or any of directors or executive officers is a director,
officer, partner, employee, appointee, or representative of an obligor
upon the indenture securities, or of an underwriter (other than the
trustee itself) for such an obligor who is currently engaged in the busi-
ness of underwriting, except that (A) one individual may be a director
and /or an executive officer of the trustee and a director and/or an
executive officer of such obligor, but may not be at the same time an
executive officer of both the trustee and of such obligor, and (B) if and
so long as the number of directors of the trustee in office is more than
nine, one additional individual may be a director and/or an executive
officer of the trustee and a director of such obligor, and (C) such trustee
may be designated by any such obligor or by any underwriter for any
such obligor, to act in the capacity of transfer agent, registrar, cus-
todian, paying agent, fiscal agent, escrow agent, or depositary, or in
any other similar capacity, or, subject to the provisions of paragraph ( 1 )
of this subsection, to act as trustee, whether under an indenture or
otherwise;

(5) 10 per centum or more of the voting securities of such trustee is
beneficially owned either by an obligor upon the indenture securities
or by any director, partner, or executive officer thereof, or 20 per centum
or more of such voting securities is beneficially owned, collectively, by
any two or more of such persons; or 10 per centum or more of the
voting securities of such trustee is beneficially owned either by an under-
writer for any such obligor or by any director, partner, or executive
officer thereof, or is beneficially owned, collectively, by any two or more
such persons;

(6) such trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default as hereinafter defined,
(A) 5 per centum or more of the voting securities, or 10 per centum
or more of any other class of security, of an obligor upon the indenture
securities, not including indenture securities and securities issued under
any other indenture under which such trustee is also trustee, or (B) 10
per centum or more of any class of security of an underwriter for any
such obligor;

(7) such trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default as hereinafter defined,
5 per centum or more of the voting securities of any person who, to
the knowledge of the trustee, owns 10 per centum or more of the voting
securities of, or controls directly or indirectly or is under direct or in-
direct common control with, an obligor upon the indenture securities;

(8) such trustee is the beneficial owner of, or holds as collateral
security for an obligation which is in default as hereinafter defined,
10 per centum or more of any class of security of any person who, to

141

the knowledge of the trustee, owns 50 per centum or more of the voting
securities of an obligor upon the indenture securities; or

(9) such trustee owns, on May 15 in any calendar year, in the
capacity of executor, administrator, testamentary or inter vivos trustee,
guardian, committee or conservator, or in any other similar capacity,
an aggregate of 25 per centum or more of the voting securities, or of
any class of security, of any person, the beneficial ownership of a speci-
fied percentage of which would have constituted a conflicting interest
under paragraph (6), (7), or (8) of this subsection. The indenture to
be qualified may provide, as to any such securities of which the inden-
ture trustee acquired ownership through becoming executor, adminis-
trator, or testamentary trustee of an estate which included them, that
the provision of the preceding sentence shall not apply, for a period of
not more than two years from the date of such acquisition, to the extent
that such securities included in such estate do not exceed 25 per centum
of such voting securities or 25 per centum of any such class of security.
The indenture to be qualified shall provide that promptly after May 15
in each calendar year, the trustee shall make a check of its holdings
of such securities in any of the above-mentioned capacities as of such
May 15. Such indenture shall also provide that if the obligor upon the
indenture securities fails to make payment in full of principal or interest
under such indenture when and as the same becomes due and payable,
and such failure continues for thirty days thereafter, the trustee shall
make a prompt check of its holdings of such securities in any of the
above-mentioned capacities as of the date of the expiration of such
thirty-day period, and after such date, notwithstanding the foregoing
provisions of this paragraph, all such securities so held by the trustee,
with sole or joint control over such securities vested in it, shall be con-
sidered as though beneficially owned by such trustee, for the purposes
of paragraphs (6), (7), and (8) of this subsection.

The indenture to be qualified shall provide that the specification of
percentages in paragraphs (5) to (9), inclusive, of this subsection shall
not be construed as indicating that the ownership of such percentages
of the securities of a person is or is not necessary or sufficient to con-
stitute direct or indirect control for the purposes of paragraphs (3) or
(7 ) of this subsection.

For the purposes of paragraphs (6), (7), (8), and (9) of this sub-
section, (A) the terms "security" and "securities" shall include only
such securities as are generally known as corporate securities, but shall
not include any note or other evidence of indebtedness issued to evi-
dence an obligation to repay moneys lent to a person by one or more
banks, trust companies, or banking firms, or any certificate of interest
or participation in any such note or evidence of indebtedness; (B) an

142

obligation shall be deemed to be in default when a default in payment
of principal shall have continued for thirty days or more, and shall not
have been cured; and (C) the indenture trustee shall not be deemed
the owner or holder of (i) any security which it holds as collateral
security (as trustee or otherwise) for an obligation which is not in de-
fault as above defined, or (ii) any security which it holds as collateral
security under the indenture to be qualified, irrespective of any default
thereunder, or (iii) any security which it holds as agent for collection,
or as custodian, escrow agent, or depositary, or in any similar repre-
sentative capacity.

For the purposes of this subsection, the term "underwriter" when used
with reference to an obligor upon the indenture securities means every
person who, within three years prior to the time as of which the deter-
mination is made, was an underwriter of any security of such obligor
outstanding at such time.

Evidence of Recording of Indenture

Sec. 314. (b) If the indenture to be qualified is or is to be secured
by the mortgage or pledge of property, such indenture shall contain
provisions requiring the obligor upon the indenture securities to furnish
to the indenture trustee —

(1) promptly after the execution and delivery of the indenture, an
opinion of counsel (who may be of counsel for such obligor) either
stating that in the opinion of such counsel the indenture has been prop-
erly recorded and filed so as to make effective the lien intended to be
created thereby, and reciting the details of such action, or stating that
in the opinion of such counsel no such action is necessary to make such
lien effective; and

(2) at least annually after the execution and delivery of the inden-
ture, an opinion of counsel (who may be of counsel for such obligor)
either stating that in the opinion of such counsel such action has been
taken with respect to the recording, filing, re-recording, and refiling of
the indenture as is necessary to maintain the lien of such indenture, and
reciting the details of such action, or stating that in the opinion of such
counsel no such action is necessary to maintain such lien.

Evidence of Compliance With Conditions Precedent

Sec. 314 (c) The indenture to be qualified shall contain provisions
requiring the obligor upon the indenture securities to furnish to the in-
denture trustee evidence of compliance with the conditions precedent, if
any, provided for in the indenture (including any covenants compliance
with which constitutes a condition precedent) which relate to the authen-

143

tication and delivery of the indenture securities, to the release or the re-
lease and substitution of property subject to the lien of the indenture,
to the satisfaction and discharge of the indenture, or to any other action
to be taken by the indenture trustee at the request or upon the appli-
cation of such obligor. Such evidence shall consist of the following:

( 1 ) certificates or opinions made by officers of such obligor who are
specified in the indenture, stating that such conditions precedent have
been complied with;

(2) an opinion of counsel (who may be of counsel for such obligor)
stating that in his opinion such conditions precedent have been com-
plied with; and

(3) in the case of conditions precedent compliance with which is
subject to verification by accountants (such as conditions with respect
to the preservation of specified ratios, the amount of net quick assets,
negative-pledge clauses, and other similar specific conditions), a cer-
tificate or opinion of an accountant, who, in the case of any such con-
ditions precedent to the authentication and delivery of indenture securi-
ties, and not otherwise, shall be an independent public accountant
selected or approved by the indenture trustee in the exercise of reason-
able care, if the aggregate principal amount of such indenture securities
and of other indenture securities authenticated and delivered since the
commencement of the then current calendar year (other than those with
respect to which a certificate or opinion of an accountant is not re-
quired, or with respect to which a certificate or opinion of an inde-
pendent public accountant has previously been furnished) is 10 per
centum or more of the aggregate amount of the indenture securities at
the time outstanding; but no certificate or opinion need be made by any
person other than an officer or employee of such obligor who is speci-
fied in the indenture, as to (A) dates or periods not covered by annual
reports required to be filed by the obligor, in the case of conditions pre-
cedent which depend upon a state of facts as of a date or dates or for
a period or periods different from that required to be covered by such
annual reports, or (B) the amount and value of property additions, ex-
cept as provided in paragraph (3) of subsection (d), or (C) the
adequacy of depreciation, maintenance, or repairs.

Recitals as to Basis of Certificate or Opinion

(e) Each certificate or opinion with respect to compliance with a
condition or covenant provided for in the indenture shall include ( 1 ) a
statement that the person making such certificate or opinion has read
such covenant or condition; (2) a brief statement as to the nature and
scope of the examination or investigation upon which the statements or

144

opinions contained in such certificate or opinion are based; (3) a state-
ment that, in the opinion of such person, he has made such examination
or investigation as is necessary to enable him to express an informed
opinion as to whether or not such covenant or condition has been com-
plied with; and (4) a statement as to whether or not, in the opinion of
such person, such condition or covenant has been complied with.

Parties May Provide for Additional Evidence

(f) Nothing in this section shall be construed either as requiring the
inclusion in the indenture to be qualified of provisions that the obligor
upon the indenture securities shall furnish to the indenture trustee any
other evidence of compliance with the conditions and covenants pro-
vided for in the indenture than the evidence specified in this section, or
as preventing the inclusion of such provisions in such indenture, if the
parties so agree.

Duties and Responsibility of the Trustee

Duties Prior to Default

Sec. 315. (a) The indenture to be qualified may provide that, prior
to default (as such term is defined in such indenture) —

( 1 ) the indenture trustee shall not be liable except for the perform-
ance of such duties as are specifically set out in such indenture; and

(2) the indenture trustee may conclusively rely, as to the truth of the
statements and the correctness of the opinions expressed therein, in the
absence of bad faith on the part of such trustee, upon certificates or
opinions conforming to the requirements of the indenture;

but such indenture shall contain provisions requiring the indenture
trustee to examine the evidence furnished to it pursuant to section 314
to determine whether or not such evidence conforms to the require-
ments of the indenture.

Notice of Defaults

(b) The indenture to be qualified shall contain provisions requiring
the indenture trustee to give to the indenture security holders, in the
manner and to the extent provided in subsection (c) of section 313,
notice of all defaults known to the trustee, within ninety days after the
occurrence thereof: Provided, That such indenture may provide that,
except in the case of default in the payment of the principal or of
interest on any indenture security, or in the payment of any sinking or
purchase fund installment, the trustee shall be protected in withholding
such notice if and so long as the board of directors, the executive com-
mittee, or a trust committee of directors and/or responsible officers, of

145

the trustee in good faith determine that the withholding of such notice
is in the interests of the indenture security holders.

Duties of the Trustee in Case of Default

(c) The indenture to be qualified shall contain provisions requiring
the indenture trustee to exercise in case of default (as such term is
defined in such indenture) such of the rights and powers vested in it
by such indenture, and to use the same degree of care and skill in their
exercise, as a prudent man would exercise or use under the circum-
stance in the conduct of his own affairs.

Responsibility of the Trustee

(d) The indenture to be qualified shall not contain any provisions
relieving the indenture trustee from liability for its own negligent
action, its own negligent failure to act, or its own willful misconduct,
except that —

(1) such indenture may contain the provisions authorized by para-
graphs (1) and (2) of subsection (a) of this section;

(2) such indenture may contain provisions protecting the indenture
trustee from liability for any error of judgment made in good faith by
a responsible officer or officers of such trustee, unless it shall be proved
that such trustee was negligent in ascertaining the pertinent facts; and

(3) such indenture may contain provisions protecting the indenture
trustee with respect to any action taken or omitted to be taken by it in
good faith in accordance with the direction of the holders of not less
than a majority in principal amount of the indenture securities at the
time outstanding (determined as provided in subsection (a) of section
316) relating to the time, method, and place of conducting any pro-
ceeding for any remedy available to such trustee, or exercising any
trust or power conferred upon such trustee, under such indenture.

146

Appendix E

Form letter mailed to corporations

Gordon R. Carton. Q.C., M.P.P.

HI

CHAIRMAN

R. Alan CogUton. M.P.P.

Allon F. Lowrenco. Q.C, M.P.P.

Urn* C. Honderton. M.P.P.
Uoflord M. R.illy. M.P.P.

ilN

COUNSEt
R. A. Davios, Q.C.

Jamoc Ronwick, M.P.P.

ONTAR IO

ASSOCIATE COUNSEL
Lionel H. Schipper

Yoroo* M. Sinaor, Q.C., M.P.P.

LEGISLATIVE ASSEMBLY

Eim»f W. SopKo. Q.C M.P.P.
l»on W. Thro.h.r, M.P.P.

SELECT COMMITTEE ON COMPANY LAW

Bo> 234. Parliament Buildings. Toronto 2. Ontorio

C. D. S. Robert»on
DIRECTOR OF RESEARCH

Robert W.lcW. M.P.P.

T.lephono 365-5774

S. I.ovine

^-^~~ ___ _^^~ "~"~~ ^^

"~~~"- — -^ J

Presentations and Briefs are invited trom interested persons or organi-
zations to the Select Committee on Company Law recently empowered
by the Ontario Legislature to inquire into and study the field of Cor-
porate Law.

The Committee would welcome your participation. It is anticipated
that the Committee will hold Public Hearings in Toronto and elsewhere
as required during the forthcoming Autumn and Winter.

The Committee's deliberations would be facilitated if all persons who
desire to make representations, oral or written, during the above-noted
first phase of the Committee's activities would advise the Secretary of
the Committee, Mr. C. D. S. Robertson, at the Offices of the Committee,
Provincial Secretary's Department, Parliament Buildings, Queen's Park,
Box 234, Toronto, before the 15th day of September, 1965.

(Signed) Allan F. Lawrence

Allan F. Lawrence, Q.C, M.P.P.,

Chairman.

147

Appendix F

Questionnaire constituting list of research topics

RESEARCH TOPICS

I. FORMATION OF CORPORATIONS AND MATTERS
INCIDENTAL THERETO

1. Should incorporation be a matter of right or of ministerial dis-
cretion?

2. What should the requirements be with respect to minimum mem-
bership, minimum number of directors, minimum paid up capital?
i.e. Should one-man companies be permitted?

3. Should companies be prohibited from carrying on business in names
other than their own?

4. Should there be a central registry in Ontario for all corporate and
business names?

5. Objects — Should companies be permitted to enter into new unre-
lated activities without the prior approval of their shareholders?

6. Should the doctrine of "ultra vires" be abolished by legislation?

7. Should all corporations, including credit unions and loan and trust
corporations be brought under The Corporations Act?

II. CLASSIFICATION OF CORPORATIONS

8. Should the distinction between public and private companies be
abolished?

9. Should companies be required to file copies of their financial state-
ments? If so, should these statements be made available to all
members of the public?

III. DIRECTORS AND OFFICERS — THEIR DUTIES,
QUALIFICATIONS AND METHOD OF APPOINTMENT

10. What are the duties of a director to the company, to its shareholders,
to others?

1 1 . Should directors be required to be shareholders of the companies of
which they are directors?

12. Should cumulative voting for the election of directors and the right
to remove directors before the expiration of their term of office be
made mandatory instead of optional as at present?

13. Should officers of companies be subject to appointment and removal
by the shareholders directly?

148

IV. MEETINGS OF DIRECTORS AND SHAREHOLDERS,
MANAGEMENT AND ADMINISTRATION GENERALLY

14. Should the directors and shareholders have the right to dispense
with the necessity for holding meetings?

15. Should shareholders have the power to initiate by-laws?

16. Should companies be permitted to use electronic data processing
equipment for maintaining their corporate records?

17. Should the procedure for transferring shares be simplified?

18. Should the right of shareholders to appoint proxies be subject to
restriction?

19. Should the filing of annual returns with the Provincial Secretary be
abolished and, if not, is all the information now required really
necessary?

V. PROVISIONS FOR THE PROTECTION OF SHAREHOLDERS
AND CREDITORS

20. To what extent should directors and officers be accountable to the
shareholders and creditors of the company?

21. Should a majority of the shareholders have the right to buy out the
minority on a takeover bid? After a successful take over bid should
a minority of shareholders have the right to require the majority to
buy them out?

22. Should amalgamations and capital reorganizations require court
approval where there are dissenting shareholders?

23. To what extent should companies be required to disclose financial
information to their shareholders? to creditors and to members of
the public dealing with the companies?

24. Should stock options to directors and officers require prior share-
holder approval?

25. Under what circumstances should dissenting shareholders have the
right to sell their shares to the company.

26. An analysis of the relationship between the shareholders of public
companies and management of such companies.

27. Are creditors of corporations that are proposing to dissolve ade-
quately protected?

28. A critical analysis of Foss v. Harbottle.

VI. ACCOUNTS AND AUDITORS

29. What are "proper" books of accounts or financial statements of
corporations?

149

30. Should the Corporations Act prescribe the qualifications of auditors?

31. What shoiald the responsibility of auditors be with respect to the
financial statements of companies? Should these responsibilities be
prescribed by the Corporations Act?

32. Under what circumstances should the auditors be required or en-
titled to attend meetings of shareholders?

VII. SHARE CAPITAL

33. Should companies be permitted to purchase their own common
shares?

34. Should non-voting common or equity shares be permitted?

Vffl. ENFORCEMENT OF PROVISIONS OF THE

CORPORATIONS ACT AND INVESTIGATION
OF THE AFFAIRS OF CORPORATIONS

35. Should Section 2.10 of the Companies Act of Great Britain (which
gives the court jurisdiction to interfere where the affairs of a com-
pany are being conducted in a manner oppressive to a minority of
the shareholders) be adopted in Ontario?

36. Should the Provincial Secretary or some other minister of the Crown
have the power and duty to investigate the affairs of corporations
where, for example, fraud or mismanagement is alleged or suspected
and should he have the right and responsibility to apply to the court
on behalf of aggrieved shareholders to require corporations to carry
out the duties imposed upon them by the Corporations Act?

37. An analysis of the enforcement of the provisions of the Corporations
Act and related statutes.

DC. CO-OPERATIVES

38. What is a co-operative?

39. If the concept of the co-operative is to be continued to what extent
should the operation of a co-operative be subject to regulation under
the Corporations Act?

X. RELATED STATUTES

40. The Mortmain and Charitable Uses Act — Should the restrictions
on corporations acquiring land now contained in this Act be abolished.

41. The Corporations Information Act.

42. The Corporations Securities Registration Act.

150

43. The Partnerships Act.

44. The Limited Partnerships Act.

45. The Partnership Registration Act.

46. The Securities Act.

XL MISCELLANEOUS

47. Should non-profit corporations be prohibited from distributing their
surplus property to their members on dissolution?

48. Foreign corporations.

49. Pre-incorporation contracts.

50. A critical comparative analysis of the rights of dissenting share-
holders— U.K., U.S. and Canadian Law.

51. A critical appraisal of the role of the auditor.

Appendix G

Partial list of persons and organizations who submitted
written briefs, communications or suggestions.

Appleton Air Conditioning Limited — Toronto

Professor C. A. Ashley

Association of Medical Clinics

Association of Professional Engineers of the Province of Ontario

Baptist Federation of Canada — Rev. E. Bailey
Beacon Chemicals Limited — Milton, Ontario
Wallace Beaton, B.Com. C.A. — Woodbridge, Ontario
Board of Directors of Physiotherapy of Ontario
Board of Opthalmic Dispensers
Board of Trade for Metropolitan Toronto
Burlington Professional Association

Canadian Bar Association — Ontario Section

Canadian Credit Men's Association Ltd.

Canadian Life Insurance Association

Canadian Lumbermen's Association

Canadian Manufacturers' Association

Canadian Plumbing and Mechanical Contractors Ltd.

Canadian Red Cross Society

Cedar Street Properties, Ltd. — Sudbury, Ontario

Chartered Institute of Secretaries

Clarkson Company Limited

College of Optometrists of Ontario

College of Physicians & Surgeons

Commercial Studios — Toronto

Consulting Engineers of Canada

Co-Operative Unions of Ontario

Corporation Trust Company — New York

152

Department of the Attorney General
Department of Economics & Development
Department of the Provincial Secretary
Durall Limited — Winnipeg

Eastwood Construction Company Limited — Peterborough
Enmar Machine Works Limited — Toronto
Equitable Income Tax Foundation — Montreal

Family Security Agencies Limited — Toronto

General Motors Corporation
Governing Board of Dental Technicians
Warren S. Green, B.A., LL.B. — Toronto

T. H. Hancock — Toronto

F. Hayward, F.A.E. — Claremont, Ontario

W. H. S. Henderson — Calgary, Alta.

Hill Business Machines — Ottawa

Holden, Murdock, Walton, Finlay, Robinson & Pepall — Toronto

Holmested, Sutton, Hill & Kemp — Toronto

Institute of Chartered Accountants
Investment Dealers Association of Canada

Basil V. Jesshope — Toronto

J. Klassen & Associates Limited — Ottawa

R. Laidlaw Lumber Company Limited

Legislative Counsel

Lincoln Plumbing & Heating Limited — St. Catharines

MacDonald & Kennedy — Toronto

Manning, Bruce, Paterson & Ridout — Toronto

Marshall & Russell— Orillia

153

E. D. K. Martin— Toronto
Merredith & Finlayson — Ottawa
Metropolitan Equities Limited — Toronto
Morrison-Lamothe Bakery Limited — Ottawa

Arthur J. Nash — Dundas, Ontario
Noranda Mines Limited

Ontario Chamber of Commerce

Ontario Federation of Construction Association

Ontario Medical Association

Ontario Veterinary Society

Palmer Thermometer Company Limited — Toronto

E. H. Pooler— Toronto

Property Owners Association of Toronto and Ontario

Rigmil Limited — Kitchener, Ontario

A. M. Ross — Philadelphia, Pa.

Royal College of Dental Surgeons of Ontario

John B. Sampson — Kingston, Ontario
Dr. Morton P. Shulman — Toronto

B. B. Skekter, Q.C. — Hamilton, Ontario
Smiles 'n Chuckles Limited — Kitchener
J. C. Smith, Q.C. — Fort Frances
Professor J. E. Smyth — University of Toronto
Society of Industrial and Cost Accountants

Tenace Tools Limited — Cooksville
Newton A. Thomas, B.A. — New Hamburg
J. I. Thomson Limited — Owen Sound
Trans- Western Oils Limited — Calgary
Trust Companies Association

154

United Automobile-Aerospace-Agricultural Implement Workers
of America

Vass, Mitchell ft Kerenyi — Toronto
Volkswagen Canada Limited — Toronto

Irvine H. Williams-— Toronto
Ward ft Eckel— Woodstock

155

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